Claremont McKenna College
In a 1997 survey by the Far Eastern Economic Review, Korea was rated as the worst place to invest among Asian countries by foreign investors. Despite a strong economy and world-class infrastructure, this mindset among foreigners has not changed as inward foreign direct investment (FDI) in Korea amounted to 2.4 percent of its gross fixed capital formation in 2010. In East Asia, the average was 6.2 percent and for developed economies 8.4 percent for 2010 (UNCTAD).
In order to realize its potential and increase its attractiveness to foreign investors, Korea must address issues of corruption within the bureaucracy and chaebol economic advantages. Positive changes within these areas will result in a more standard and comfortable business environment for foreigners thereby increasing Korea’s attractiveness to foreign investors.
Despite tremendous advances in political equality and economic stability since 1997, corruption, which President Lee Myung-bak has described as “rampant,” still reduces the legitimacy of the Korean government. Corrupt governments are not conducive to creating a transparent and predictable business environment thereby increasing the riskiness of a potential investment.
In order to fight corruption, Korea must build transparency and accountability within government. To foster this, a policy of harsh and consistent punishments must be utilized to serve as a credible deterrent for engaging in corrupt activity.
Furthermore, government policy and taxation toward foreign investment must be clarified. Simplifying such procedures reduces ambiguity and arbitrariness, which local governments use to their advantage in implementing the law as they interpret it.
Additionally, a clear set of rules instills investor confidence as the powers of government (regulation) are well defined, thereby reducing the likelihood for businesses to be stonewalled or assets to be frozen.
Lastly, creating more oversight and accountability can be accomplished by developing an independent agency to monitor government actions and policy implementation to ensure greater consistency and continuity between central and local governments.
The perception that chaebol enjoys unfair advantages in the economy and preferential treatment from the government is another issue contributing to the weak flow of inward FDI.
Foreign investors view chaebol dominance in Korean business as an impediment to entry since chaebol enjoys significant advantages in the Korean market skewing the business environment in its favor.
Since 2002, examples suggesting chaebol is above the law are numerous. In 2007, Chung Mong-koo (Hyundai Motor Group) was sentenced to three years in prison for embezzlement. However, his sentence was soon suspended as his “importance to the Korean economy”was too great. In 2008, Lee Kun-hee (Samsung) was pardoned for tax evasion.
Consistent examples such as these have created a negative view that Korea’s market and business environment is neither fair nor welcoming to foreigners.
At this point, the government has a choice: either it can continue with its policies of favoring chaebol and accepting low FDI, or it can make a dramatic change and expose the chaebol to more competition in an ever increasing global environment while committing to treat chaebol and its leaders equally with other businesses.
Over time, only the latter strategy is a likely path to increased levels of inward foreign investment.
Reducing levels of corruption within the bureaucracy and treating all business groups equally are two courses of action Korea can immediately pursue to increase foreign investment. Changes in these two areas will result in a more transparent and fair business environment.
However, to fully reverse Korea’s consistent underperformance in attracting foreign investment, Korea simply needs time. The rapid rate of economic reform following the 1997 financial crisis created a mismatch between Korean policy and the slower speed of change in the values and beliefs held in the Korean bureaucracy and within its society.
Presently, the poor business environment toward foreigners is a result of this development, whereby intentions do not match outcomes. In order for the business environment to improve, Korea needs time for nationalistic mindsets to catch up to the economic reform and policy shifts implemented post-1997.
To conclude, Korea has many of the necessary components in place which are conducive to attracting foreign investment: a strong economy, world-class infrastructure, and appealing incentives. These attractions are currently outweighed by the negative perceptions foreigners have toward Korea as a difficult place to do business since the country has a complex, unfair, and unattractive business environment toward foreigners.
However, by implementing the short-run changes as suggested in this paper and allowing time to pass, foreigners’ perceptions of the Korean business environment will improve resulting in a substantial increase in the level of inward foreign investment over time.