Mauro F. Guillen

Calls are growing to open Korea's service sector to greater competition

By Jung Sung-ki

Rising from the ashes of the Korean War (1950-53), South Korea has undergone remarkable development and growth to become one of the world’s most affluent countries over the last century.

There is no doubt that a key to the “rags-to-riches” miracle was the country’s export-oriented growth strategy with ample emphasis on the manufacturing sector, producing a variety of tangible objects: steel, ships, buildings, cars, bridges, appliances, memory chips, TVs and mobile phones.

Tim Condon

But as much of the world economy is now dominated by the service sector regarding intangibles, such as skills, knowledge and information, South Korea is now urged to take feasible steps to help further strengthen the competitiveness in its labor-intensive service sector through more investments and open competition, experts here and abroad say, given the country’s stage of economic development and its fast changing demographic structure.

Nevertheless, some argue it’s still premature for Korea to shift its fundamental industrial base because the domestic markets have not been fully globalized enough to compete with foreign companies in the service sector and there is a fear that emphasis on the service industry could erode the country’s economic soundness.

“Labor productivity in the (Korean) service sector is a fraction of labor productivity in manufacturing,” ING senior economist Tim Condon said. “It’s not realistic to talk about equalizing productivity across the sectors, at least not in the short run. But reversing the widening in the productivity growth gap that occurred in the decade after the IMF crisis is reasonable.”

The growth of labor productivity, that is the average annual growth in GDP per worker, in the manufacturing sector accelerated to 7.7 percent in the post-IMF crisis period, while productivity growth in the service sector slowed to 1.3 percent from 2.4 percent, Condon said.

Richard Dobbs, director of the McKinsey Global Institute, echoed Condon’s point.

In his 2010 report co-authored by Roland Villinger, managing director for the consulting group’s Seoul office, he wrote, “If South Korea is to generate new jobs and continue raising its living standards in the decades to come, it must stop relying so much on manufacturing and place a greater emphasis on developing its service sector.”



Employment in services

Over the long run, gains in manufacturing bring ever higher levels of automation and thus come at the expense of jobs, the report said. Indeed, between 1995 and 2002, nearly 22 million manufacturing jobs disappeared from the global economy despite numerous policy efforts to promote employment in that sector.

No mature economy today, not even Germany or Japan, generates net job growth in manufacturing, it said.

“South Korea is not immune to this trend, having lost nearly 740,000 manufacturing jobs from 1995 to 2008,” according to the report.

Services, including those provided by the government, account for 58 percent of the Korean economy, while manufacturing accounts for 30 percent, with the rest coming from construction and agriculture.

This figure is far lower than those in other developed nations. Services account for 80 percent in the United States, 79 percent in the United Kingdom, 73 percent in Japan and 72 percent in Germany.

According to the OECD, South Korea’s private-sector services productivity is only 56 percent of manufacturing productivity, in stark contrast to other developed countries where the two are about the same. This represents a huge opportunity to boost the country’s overall productivity, the report said.

“Any increase in productivity in services will have nearly double the impact on South Korea’s economy that will a similar change in manufacturing.”

Tim Condon expected slower growth in China will lessen the competitive pressure on the rest of the world’s manufacturers, including Koreans. This means the attractiveness of investing in the service sector will increase, he said.

“Slower labor productivity growth in the manufacturing sector must be offset by higher labor productivity growth in the service sector or trend GDP growth will slow,” said the economist.

Overregulation

Cho Hyun-seung, a fellow researcher at the Korea Institute for Economics and Trade, stressed the government should do more to loosen regulations that have hindered the development of services, such as finance, health care, legal services, educational services, social welfare, and communications.

“Public service regulations, such as on electricity and water supply, are inevitable to prevent any monopoly, but regulations on private-sector services should be eased to a greater extent,” Cho said.

“With rapid population aging, for example, the public demand for medical and health care services is growing fast. But there are lots of regulations in place to restrict medical businesses, such as the telemedicine system and diet therapy.”

There has been plenty of controversy over medical service programs in recent years. Last year, a bill to allow medical consultations was turned down by the National Assembly even after receiving approval from the Cabinet despite public calls to increase such an “e-health” network system.

Korean doctors opposed the bill, arguing telemedicine practices might not be safe and would lead to the collapse of the present hospital system.

After years of debate, the government recently decided to allow 44 over-the-counter (OTC) pharmaceutical products to be sold at supermarkets, convenience stores and any other retail outlets.

Previously, only licensed pharmacists were allowed to sell these products. Pharmacists strongly oppose the plan out of concern that they could lose a major source of income.

Calls are also growing to open the local service market to foreigners in a bid to enhance the global competitive edge of domestic service businesses.

“Barriers to foreign competition continue to shelter inefficient service providers, while limits on foreign direct investment inhibit the transfer of world-class capabilities,” said the McKinsey report.

Mixed analysis

Not everyone agrees with those supporting the expansion of Korea’s service industry, at least in terms of timing.

“I am not sure whether we can or we should start developing a services sector now," said Chelsoo Kim, an economics professor at Sookmyung Women's University in Seoul. “Korea's comparative advantage is in the manufacturing sector, not in the service sector. Although diversifying into services may be useful, I think Korea should try to concentrate on what (it) does best right now.”

He also pointed out that not only is Korea's macroeconomic house now in order, but its exporters are more diversified geographically than they have been in the past, and hence less vulnerable to a particular country's downturn than before.

Mauro F. Guillen, director of the Lauder Institute at the Wharton School, advised South Korea to find new ways to bundle goods and services together.

“The line between manufacturing and services is blurred. Is GE an industrial or a service firm? Increasingly, manufacturing firms find ways of selling services quite profitably,” he said. “I would say that the first thing South Korean firms should do is look for ways to bundle goods and services, especially to move into higher-value added activities.

“I've always thought that Korea could do more to liberalize and make more dynamic its service sector, such as finance, energy, infrastructure,” Guillen went on to say. “Korea can become an economic hub complementary to China by offering higher-value added goods and services that complement what Chinese firms make.”

The professor recommended South Korea model itself after Germany.

“It is still a manufacturing powerhouse, but it has also developed its service sector considerably.”