Written by: Siddharth Bhargava | Matthews Asia
On a trip to South Korea earlier this year, I felt somewhat frustrated by a recurring sentiment I heard among banks, telecommunications firms and cable providers; when pressed on the subject of profitability, representatives would often offer an apologetic shrug and some comment to indicate that “Well, the government sees this as a public utility…so there is only so much we can do.” While one may expect stringent regulation in the banking segment, I was surprised to hear this sentiment echoed in other sectors as well.
One needs to examine history to understand the root of this interventionist policy.
Less than 70 years ago, South Korea was an impoverished nation when Syngman Rhee became its first president. Because of Japan’s occupation of the country, all meaningful assets were state-owned, and decision-making was concentrated with a select few officials. Assets were sold off to influential individuals at substantial discounts, and this was the genesis of Korea’s model for chaebol, large, often family owned conglomerates. When General Park Chung Hee took power in a coup in the 1960s, economic development became a top priority for the administration and chaebol firms were the preferred vehicles of economic growth. The dark side of this government-directed capital allocation was the unequal distribution of power, with workers paying the price.
Because of the historic dominance of large corporations in Korea,
as well as the government’s proclivity for making labor laws subservient to these corporations, political and social forces are seeking to right these wrongs. Government influence can be felt through regulators and the state-owned policy bank to clamp down on rent-seeking behavior by companies at the expense of domestic consumers. However, policy has often proven to be self-defeating. For instance, the bank regulator provides aggressive guidance on how loan prices should be decreased depending on their assessment of the fairness of price, rather than a fair return on capital. Labor laws seek to protect the rights of unions and provide equitable distribution of wealth. Rigid labor laws have led the country to have among the world’s highest rates of temporary employment. Fundamental reform is subject to political machinations. While President Park Geun Hye has put the labor market at the core of structural reforms, tens of thousands of workers recently went on strike to protest against reforms. Such laws have hurt global competitiveness and caused chaebol to invest outside the country and in people-light, portable, competitive advantages.
While government influence is still felt in utility-type businesses, these firms stand in stark contrast to some truly globally competitive Korean firms. For instance, food producers and cosmetic companies have been headed by domestic entrepreneurs and evolved under the influence of market feedback mechanisms and competition. These industries have exported quality products to China, winning market share and brand recognition there. Then there are manufacturing firms that have benefited from the Korean government’s strict adherence to export discipline early on, combined with a willingness to cull underperforming firms. Korean auto manufacturers, for example, were given preferential treatment in the form of subsidies and better foreign exchange terms. Those who failed to live up to the government’s export standards found themselves short of foreign exchange to import raw material, working capital loans and, ultimately, were allowed to fail. So while there has been broad-based government influence in the Korean economy, it has been to protect domestic consumers while exerting enormous pressure on firms to be globally competitive. While industries subject to populist policies have destroyed capital, it’s the latter group of export-led companies that provide ample ground for us to find outstanding investments.
Further, there are attempts to improve corporate governance and regulation. Matthews Asia earlier highlighted a slew of reforms in an August 2014 Weekly Asia commentary. Since then, conglomerates have announced measures to merge units, simplify corporate structures and ultimately improve governance. Progress continues on measures such as a reduction in taxes levied on dividend income for shareholders, deterring corporates from hoarding cash, and a re-emphasis on more domestically focused companies, rather than cyclical, trade-driven ones. With presidential elections slated for 2016, we look for consistency in policy to ensure these reforms continue unabated.
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