Cho Kook Yeul had expected 2004 to be a great year. The salesman at a Hyundai dealership in Seoul's Yoido financial district was counting on traders and bankers flush with cash to drive plenty of new Sonata sedans and Santa Fe sport-utility vehicles off his lot. After all, the government in January predicted that the Korean economy would grow by as much as 6.5% this year -- more than double last year's pace. But few buyers have been coming in to kick the tires -- in spite of glowing reviews of Hyundai Motor Co.'s quality improvements. "People simply haven't been buying new cars," Cho says. "They keep driving their old ones."
What happened to the rosy forecast? Growth is now expected to end the year at a respectable 5%, but consumer spending won't play much of a part in reaching that figure. Ordinary Koreans, worried about too much personal debt and future job losses to China, have not been in the mood to buy much of anything beyond the basics. Household spending, which drove Korea's growth in 2001 and 2002, dropped by 1.4% in the first quarter year-on-year. That's the fourth consecutive quarter of declining consumption. And sales of durable goods -- refrigerators, cars, air conditioners, and the like -- plunged 6.7% in April from the year-earlier period, according to the National Statistical Office.
It's a case of the best-laid plans gone wrong. Korea's economic mandarins figured booming exports of everything from semiconductors and cell phones to steel and supertankers would lead to more investment, which would create jobs. That was expected to boost consumer spending by the second quarter. So the Finance Ministry bought dollars to make sure the won, the Korean currency, remained weak to keep the country's exports competitive. It certainly helped: Every month over the past half-year, shipments abroad have grown by more than 30% over the year-earlier period. But as the second quarter draws to a close, consumers are still in their dugouts. "The government has been supporting the strongest part of the economy at the expense of domestic demand -- the weakest part," says Huh Chan Guk, chief economist at Korea Economic Research Institute, a think tank for the big conglomerates, or chaebol, that still control much of the country's industry.
South Korea's consumer stinginess can be traced to last year's credit-card debacle. In the wake of the 1998 financial crisis, banks shied away from corporate lending, focusing instead on consumers. Then former President Kim Dae Jung, eager to turbocharge growth, eased rules on credit cards. The ceiling for card loans was lifted to encourage young consumers to go out and spend, and issuers wooed customers by handing out cash payments of up to $8.50 to anyone who would take their plastic. No credit history? No problem. Millions took the plunge, and credit cards in Korea jumped to 104 million in 2002 from 39 million in 1999. Household debt, meanwhile, soared to $383 billion in December, 2003, from $157 billion five years earlier. Today, Korea is paying for that binge as consumers struggle to get out from under old debts. "The lack of consumption is structural," says Choi Gong Pil, chief economist at Korea Institute of Finance, a think tank funded by the country's banks. "Although the credit-card bubble is subsiding, households will have to do much more to mend their balance sheets."
Any recovery may also be slowed by falling real estate prices. Korean banks typically make mortgage loans of just a year or two, compared with the 15- and 30-year loans common in the U.S. As these loans mature, banks roll them over at the prevailing interest rates. And President Roh Moo Hyun has vowed to fight speculative investment in real estate. As a result, housing prices are expected to drop 5% to 6% this year. If the market keeps heading south, banks could refuse to renew some of the loans, and families who were accustomed to spending their real-estate gains on big-ticket items such as cars and furniture might close their wallets.
A greater structural weakness stems from growing polarization in the corporate sector. Big-name multinationals such as Samsung Electronics Co. and Hyundai Motor are stronger than ever thanks to booming overseas sales. But they're also outsourcing more production to China, so their export earnings no longer automatically trickle down to the rest of the economy in the form of new jobs, higher wages, and bigger order books for suppliers. "Korean companies live in two completely different worlds," says Jun Yong Wook, a business professor at Chung-Ang University in Seoul. "A small group belongs to the top league, but a large chunk remains uncompetitive."
And increasingly, that top league is looking abroad for sales that aren't materializing at home. Hyundai's Korean sales plunged 23.8%, to 225,420 vehicles, in the first five months of this year. But exports surged 22.7%, so the company is still expecting profits of $2 billion. "We obviously want domestic sales to improve, but the slowdown here won't prevent us from achieving our overall goals this year," says Hyundai Executive Vice-President Nam Kwang Ho. Samsung Electronics, meanwhile, says it expects record profits this year even as domestic sales remain flat.
IN THE DOLDRUMS
Mani Co., a trading company that imports kitchen and bathroom tiles from Europe to sell to local home builders, stands in stark contrast to the two global giants. Mani's sales have dropped by half this year. "Most of our business partners feel that the current business environment is no better than the situation at the depth of the [Asian] crisis," says Mani manager Kim Gyu Sil.
What would fix the problem? Korea is in a tough spot. It needs export earnings, the bulk of which come from China. But China is trying to brake its own economy, which could curb shipments from Korea. A big interest rate cut would help, but Korea can't afford to do that. A weaker currency helps exports but sharply drives up the cost of Korea's oil imports, which feeds inflation. Korea needs high rates now to keep inflation under control and to fight real estate speculation.
Policymakers aren't sitting on their hands. The government and the ruling Uri Party on June 15 agreed to nearly double, to $3.8 billion, funds earmarked for research, low-cost loans to small and midsize companies, and increased funding of state-owned outfits -- a move officials hope will create 55,000 jobs. Some, though, say it won't be enough, and that Seoul should cut taxes and boost spending on infrastructure projects. Finance Minister Lee Hun Jai counters that the program will help Korea outlast the external factors that are keeping a lid on buying. "There's a time when the best policy is to wait and see," Lee says. Koreans can only hope he's right.
By Moon Ihlwan in Seoul