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The latest victim of the spreading South-East Asian crisis is South Korea, a country least suspected of succumbing to hard times like the rest. Built on years of solid high rates of GDP and export growth, South Korea is as much affected by the currency crisis as its poorer neighbours, Thailand and Indonesia. The recent collapse of the won and its fall by 16 per cent this year shows deep-seated economic woes even though it is the world's eleventh largest economy and twelfth largest exporter. The signs of t
e economic malaise affecting the region are ominously the same - a relatively high current account deficit, eroding competitiveness and short term foreign currency borrowings which have not been invested in productive assets but used instead for real estate speculation.
All the recently affected countries also have an inefficient banking system which is highly leveraged and have lax banking regulations. In South Korea, a corrupt political system used the banking system to its own advantage for giving loans to chosen conglomerates. The banks in turn borrowed heavily from abroad. The total Korean foreign debt is $125 billion, with $78 billion in short term debt and with foreign exchange reserves at around $30 billion or less than three months' imports. Fears arose regardin
the stability of the Korean won.
Yet just ten years ago, the South Korean miracle was cited in all textbooks on development and last year, South Korea's entry into the OECD - the industrial countries' club - surprised no one because after Japan, South Korea was the Most industrialised, westernised and affluent country in the South-East Asian region.
Koreans have had a high rate of saving that financed their state-led development efforts until recently when South Koreans developed a great penchant and appetite for foreign luxury goods. Korean Chaebols or conglomerates that began as family enterprises made their presence felt in the world since the last decade and exported vigorously. Korean ship-building industry also got a fresh impetus in recent years. In short, South Korea stood for growth and prosperity till last year when export growth began to
slacken. Its current account deficit grew to $23.4 billion last year. Today, the government is negotiating a huge bail-out with the IMF, but with the presidential elections a few. weeks from now in early December, whether the IMF loan will be accepted is to be seen.
Obviously, the South Korean economy had a deep-seated malaise that bred inefficiencies which have in turn led to current economic problems. The Chaebols came to be run as family enterprises with little attention paid to efficiency gains. Large portions of profits were allocated to family members involved in the running of Chaebols. To be fair, trouble did not start due to inefficiencies alone but due to overinvestment in the manufacture of semiconductors. With a slackening of world demand for semiconducto
s, there emerged a huge excess capacity. It led to the piling up of inventories and the pile-up has been so great that Koreans are now in a panic to sell them at whatever price they can. The problem of slowdown in exports has affected the profits of the Chaebols even though in many areas, they retained a definite competitive edge. While they borrowed heavily from banks, many loans were not repaid.
The government rescued the banks instead of letting them go bankrupt. Imports kept increasing while exports languished.
The pressure kept increasing while exports languished. The pressure on the won came from importers rushing for dollar cover and a quick departure of foreign institutional investors who had invested heavily in Korea. The won was defended by government intervention from its foreign exchange reserves but the panic lasted and the won fell.
Since the all-too-familiar drama of a meltdown is now being enacted in South Korea, the IMF will most probably be around to help it out. The central bank employees in South Korea, however, have been recently staging a mass protest against the withdrawal of the central bank's supervisory power over banks through legislation.
Recovery of bad debts is of prime importance in the Korean economy, and a special fund is going to be created that would buy bad loans from the commercial banks. In return for IMF help, South Korea will have to reform its banking and financial system. In this crisis, the East Asian countries are learning a few things, and one of them is that they now know who their friends are.
Since the crisis has struck the region, foreign institutional investors have been shunning the Asian emerging markets 'm a big way, and their withdrawal has made things worse. Many think the rapidity of the withdrawal of FIIs has been worse than in the case of Mexico. In such hard times, China and Japan have come to the aid of the beleaguered economies and have pumped in money. All the affected economies need immediate financial help to pay back short term foreign debts because now that their currencies
ave been devalued, the burden of servicing that debt has increased manifold. Europe and US have so far kept aloof and are still working towards a strategy which can help these economies. They are likely to feel the impact of the South Asian crisis when it translates into a slackened demand for their exports. By withdrawing their money from the region and only letting the IMF take care of the problems of South-East Asia, the investors from western countries are making a mistake as this will only prolong th
crisis and the pain.
For India, it will be tougher to increase exports in the year ahead, as all these countries affected by the crisis are gearing up to launch their exports aggressively. Many South Asian economies have huge inventory pile-up as well, and they are going to sell quality products at low prices. With India's currency still relatively overvalued and therefore affecting the Indian exports' competitiveness, there will be problems in competing with these countries. Another fall-out of the crisis will be on South-Ea
t Asian and Korean investment in India as there will be a slower FDI inflow. There has already been a big curtailment of FII inflows into India as fund managers are avoiding the Asian region including India. One way of circumventing trouble is to let the exchange rate become competitive, specially when even Pakistan has undertaken a competitive devaluation. Korean conglomerates like Daewoo and Hyundai are already confident of increasing exports by around 20 per cent next year which will help the Korean tr
de deficit to shrink. The Tigers and Korea may recover if they undertake drastic reforms but for India, unless strong policy measures are taken to increase competitiveness through currency depreciation, restructuring and reforms, there will be problems.
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