May 11, 2007

May 11, 2007 | Commentary on Asia

FTA jumpstarts economy

South Korea's "economic miracle" is being challenged by increasingly competitive rivals and growing investor concerns over Seoul's commitment to economic reform. Implementing the Korean-U.S. Free Trade Agreement would give South Korea a significant regional trade advantage and send a powerful positive signal to foreign and domestic investors.

South Korea has hit a plateau in the ability of its economic system to sustain strong growth. Declining profitability brought on by the strong won, falling business and consumer confidence, and unfavorable labor conditions are dragging down the country's economic strength. South Korea is also gaining a reputation as being reluctant to follow through on critical economic reforms as well as being hostile to foreign direct investment.

While South Korea undergoes a strategic pause, its competitors do not. Without change, South Korea will suffer declining competitiveness while investors increasingly bypass the country's protectionist ways for more profitable markets. As one foreign pro-business advocate in South Korea opined, "businesses have to go to China; they don't have to go to South Korea."

The KORUS FTA provides a way for South Korea to recapture its economic vitality and reforge its economic system. Countless studies have identified the expected trade benefits, including a $20 billion increase in annual bilateral trade with the United States, elimination of 95 percent of tariffs within three years, and lower consumer prices in South Korea.

Those benefits are sufficient to justify the National Assembly ratifying the KORUS FTA. But there are even more significant, though less tangible, benefits that South Korea should be eager to embrace. And there is a very tangible cost in failing to implement the FTA since it would have dire consequences for South Korea's economy and its relationship with the United States.

The opening of both countries' markets would serve as a new growth engine for strengthening South Korea's sputtering economic recovery. The FTA would also improve the country's economic freedom by locking in additional economic reforms. Institutionalizing South Korea's reform promises would reassure domestic and foreign investors who have been confused by President Roh Moo-hyun's vacillating economic policies and conflicting messages. Greater investor confidence will bring about changes that, in turn, would increase the potential for international ratings firms to boost South Korea's sovereign credit ratings.

Increasing trade with the United States would diversify South Korea's trading base to decrease its reliance on China and reduce the danger of "China shock." Downturns in China's economy as well as steps by Beijing to reduce economic growth to counter an overheating economy have significant ramifications for South Korea's export-reliant economy. Senior Chinese leadership statements in 2004 that it was considering such measures led to a dramatic drop in the South Korean bourse and emergency meetings of the National Security Council.

Implementing the KORUS FTA would trigger additional trade agreements for Seoul, including with Japan, China, and the European Union. The speed with which Beijing and Tokyo sought to reinvigorate dormant trade negotiations following the successful conclusion of KORUS talks, reflects their assessment of the advantages that South Korea will gain over them. From a South Korean viewpoint, something that makes Beijing and Tokyo so economically nervous must be good for Seoul.

Most importantly, the KORUS FTA will improve South Korea's competitiveness against regional rivals China and Japan and prevent it from being a "shrimp sandwich." The analogy is a combination of South Korea's current fear of being economically "sandwiched" between high-tech rival Japan and increasingly competitive China and the historical adage of being a "shrimp amongst whales" surrounded by larger intimidating neighbors.

Beijing's growing competitiveness has been perceived as a long-term threat sometime over the distant horizon but it already poses a formidable risk. The dwindling technological gap has enabled Chinese firms to compete strongly against South Korean small- and medium-sized enterprises. While the chaebol remain dominant, the South Korean business herd is stretching out and the slow runners are already being eaten by their Chinese competitors. Moreover, South Korea's low domestic investment, including in research and development, means the entire herd is slowing down and becoming more vulnerable.

Neither South Korea nor the United States achieved all that it sought during the negotiations and the FTA's impact on individual trade sectors will be uneven. That is the nature of trade negotiations. But overall, the KORUS FTA serves the national interests of both countries. South Korea now faces a choice. It can reject the FTA and face declining economic prosperity or it can implement KORUS and become a regional trading hub.

Bruce Klingner is senior research fellow for Northeast Asia in the Asian Studies Center at The Heritage Foundation (heritage.org) in Washington, DC.

About the Author

Bruce Klingner Senior Research Fellow, Northeast Asia
Asian Studies Center

Related Issues: Asia

First appeared in Koreaherald.com