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South Korea's Moon must confront economic headwinds

Seoul can launch promised chaebol reforms to reboot growth

| South Korea
Moon seems more driven by the next GDP report than where Korea wants to be ten years out.    © Reuters

South Korea is seeing a bull market in bearish economic news.

In the first 20 days of May, exports plunged 11.7% from a year earlier, signaling a sixth straight monthly drop. Unemployment rose to 4.1% in April from 3.8% in March.

With semiconductor prices tumbling, the downshift in China, Korea's biggest export market, is going from bad to worse.

Meanwhile, in a sign of the structural weaknesses that underlie the macro-economic data, the percentage of net profit coming from just the top five out of 59 family-run business empires last year came out at 72%, the third straight year of record highs. It means that the elite Korean "chaebol" are tightening their grip on Asia's fourth-biggest economy as growth slows.

This is not the report card president Moon Jae-in hoped for at the two-year mark of his presidency. Since taking office in May 2017, Moon promised not just to hasten top-line growth but increase living standards from the ground up. Korea's 50 million people are still waiting. He also pledged to wrestle power away from chaebols -- including Samsung, Hyundai, SK, LG and Lotte.

With three years left, Moon still has time to turn things around. But three big challenges stand in the way of South Korea accelerating growth and wages and upping competitiveness.

First, rancorous domestic politics. The U.S.-China trade war is hitting Korea hard. In the first quarter, Korea suffered its worst contraction since the 2008 financial crisis. While modest, the 0.3% drop in gross domestic product from the previous quarter has global significance. Korea's open, sizable economy often acts as a weather vane for trade shifts.

In response, Moon's Democratic Party crafted a $5.7 billion stimulus package on April 24. Yet opposition forces dug in to stop the spending program. The monthlong logjam has generated some violent scuffles on the floor of the National Assembly. And it presents an immediate test for Moon if he is going to revive his power and stop growing talk of a lame-duck presidency.

Amid the rancor, global investors are left worrying about a lost economic decade. Korea famously beat the "middle-income trap" that ensnares all too many developing nations. It is Exhibit A when officials in Jakarta, Manila and Putrajaya seek strategies to keep per capita income from stalling out near $10,000. Korea is on about $30,000. Yet it now faces a mid-life crisis of sorts.

The answer? Unleashing a startup boom that creates new jobs, wealth and innovative energy to divert power away from giant exporters at the top of Korea Inc.'s pecking order.

But that runs into the second challenge -- political short-termism. This marks the fifth straight year Seoul has rolled out an extra budget for stimulus. It may indeed be a valid response to Donald Trump's tariffs and waning Chinese demand. Odds are still high that the U.S. president will make good on threats to slap 25% taxes on imports of cars and auto parts, slamming the supply chains on which Korea relies. That has economists like Sung Tae-Yoon of Yonsei University urging "increased" fiscal loosening.

Yet this will only work if it is part of an ambitious structural reform push. At the moment, political rivalries are getting in the way. The opposition Liberty Korea Party thinks delaying stimulus is a smart strategy to strengthen its position in parliament.

Such short-term thinking has, sadly, been the hallmark of the conservative bloc's two pre-Moon presidencies. Both Park Geun-hye (2013-2017) and Lee Myung-bak (2008-2013) put stimulus before reform.

Moon also too often seems more driven by the next GDP report than where Korea wants to be ten years out. His early success in hiking the minimum wage was not followed up by policies to reduce unemployment near nine-year highs, including youth unemployment of 11.7%. Moon's focus on detente with North Korea, meantime, may be the right political course to take but it has distracted him from the economic agenda.

Nor has Moon's government made progress reducing near-record household debt of roughly 186% of disposable income. That compares with 105% in Japan and 108% in the U.S. That is a clear and present vulnerability -- and an impediment to stronger consumption -- as the trade war deepens.

"According to our debt vulnerability matrix, the risk of an unexpected shock triggering a systemic crisis has increased in South Korea," says Priyanka Kishore of Oxford Economics.

The third challenge is the chaebols' huge capacity to resist reform.

Even as Trump versus China exacerbates downside risks, the faceoff could be an opportunity for tech-heavy economies. Korea's reliance on exporting semiconductors and other intermediate goods to China is an immediate risk. But, in the longer run, Trump's tariffs might slow China Inc.'s rapid move up the technology value chain in Korea's favor.

Executives at Samsung Electronics, for example, will find openings in the U.S.-China tit-for-tat. Trump's clampdown on Huawei Technologies' access to American chips and software will impede the smartphone maker's ability to thrive abroad and challenge Samsung. Meanwhile American rival Apple, is susceptible to trade war retaliation from Beijing, including access to rare-earth elements vital to iPhone batteries.

Fine, so long as Moon stays focused on the bigger picture. In decades past, what was good for chaebol giants like Samsung was widely seen as good for the nation. No more, as global investors turn their focus toward tech "unicorns" and game-changing innovations, not lumbering old-established conglomerates protecting the status quo.

Top-heavy South Korea surely needs a shake-up in corporate governance to create more space for rising small and medium-sized groups. Equally important is incentivizing startups with tax tweaks, moves to scale back regulations and pro-entrepreneurship policies that encourage risk-taking and attract foreign talent.

The chaebol empire that generated that 72% of net profit last year can be expected to strike back and protect its turf. Its massive scale leaves little oxygen for homegrown unicorns. Moon's two immediate predecessors did more to coddle corporate champions than democratize growth. Moon's mandate, by contrast, was to give "trickle-up growth" a try.

Results so far are mixed, at best. Samsung, Hyundai, SK, LG and Lotte reaped a record 57% of all sales last year, up from 56% in 2017. Moon must act boldly over the next three years to diversify growth engines away from a handful of corporate goliaths. Do that, and South Korea can exceed the 2.5% GDP growth Fitch Ratings predicts this year and next. By democratizing the benefits of that growth, Moon can confound naysayers and avoid a lost decade for his country.

William Pesek is an award-winning Tokyo-based journalist and author of "Japanization: What the World Can Learn from Japan's Lost Decades." He was given the 2018 prize for excellence in opinion writing by the Society of Publishers in Asia for his Nikkei Asian Review work.

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