elect Financial Hub Initiative

By Kim Ki-hwan

Chairman of Seoul Financial Forum

At this particular stage of Korea's economic development, it is critical for Korea to restructure its economy from a manufacture-based to a high-value added, knowledge-based service economy.

In this regard, transforming Korea into the premier international financial center in Northeast Asia through enhancing the competitiveness of its financial sector is imperative.

A competitive financial industry in itself is a high-value added, knowledge-based industry, but more importantly, a competitive financial industry will greatly facilitate Korea's transition to a knowledge-based economy.

Therefore, it has been most encouraging that President-elect Lee Myung-bak has already stated publicly a number of times that his administration will push Korea's international financial center initiative with utmost vigor.

Hence, the question now is how to effectively implement this commitment.

There is little question that becoming a financial center will yield many benefits for the country, such as greater efficiency in investment allocation leading to high growth, vibrant entrepreneurship, enhanced diplomatic status for Korea and better prospects for peace and stability on the Korean peninsula.

The general public, however, has difficulty appreciating these benefits. Hence, their support for the financial center initiative is less than what it should be.

Partly for this reason, if Korea is to succeed with its aspiration to become a world-class financial center, first and foremost, there should be strong presidential leadership for this initiative.

President-elect Lee should put in place a Presidential-level program management office that will effectively coordinate all facets of the government's efforts to turn Korea into an international financial center.

Assuming that the government will be reorganized, one way to establish this office would be to place the responsibility for designing and implementing the overall strategy for the financial center initiative on the shoulders of the Minister of Finance and Policy Coordination and the Chairman of the Financial Services Committee.

These two office holders should work closely with a senior aide to the President for the financial center initiative in the Blue House. The role of the presidential aide would be to continuously monitor policy progress and report to the President. To ensure effective implementation, however, the Minister of Finance and Policy Coordination and the Chairman of the Financial Services Committee should be required to report to the President on a regular basis as well.

Second, over the past several years the outgoing Roh Moo-hyun government has announced many policy changes and reforms, such as moving to liberalize foreign exchange controls on capital account transactions and minimizing barriers to market entries.

Unfortunately, during the last year and a half, this very government took much action inconsistent with these policies. A case in point is the measure taken by the Ministry of Finance and Economy last year to restrict short-term borrowing by foreign bank branches from their parent companies or affiliates overseas.

This action was contrary to the policy announced earlier that did away with the requirement for obtaining advance permits for such transactions.

Another example is advising foreign financial institutions on when to submit license applications for new businesses instead of acting promptly on such applications.

Needless to say, these actions have greatly undermined the credibility of Korea's claim that it will become an international financial center. Hence, undoing these policies should be an urgent priority for the new government.

Third, although it has been the aim of the Roh government to adopt global standards in financial regulations, it has been difficult to achieve this goal on account of a lack of qualified financial regulators.

There has been much unnecessary friction between regulators and their clients, i.e., domestic and foreign institutions.

Professional capabilities of regulators should be enhanced by expanding overseas training for regulators and recruiting foreign professionals for key regulatory positions.

Yet another policy priority concerns the need to reform Korea's tax system and its administration.

A KOTRA survey showed that differences in the interpretation of Korea's tax laws between foreign investors and tax authorities and frequent tax audits by the National Tax Service constitute the greatest difficulty foreign investors experience in Korea.

In addition, foreign financial institutions in Korea experience a great deal of unnecessary tax friction in carrying out financial transactions due to the variety of surtaxes Korea imposes on financial transactions, such as the 0.5 percent education tax and 0.3 percent securities transaction tax.

Furthermore, the recent efforts to streamline tax benefits available to foreign investors under various tax treaties Korea has entered are most likely to generate serious disputes not only between foreign investors and the Korean government, but also between the Korean and other national governments.

The best way to address these taxation problems is to launch a National Tax Reform Commission, whose primary role is to recommend an optimal tax system that will not only strengthen Korea's competitiveness as an international financial center, but will also meet the needs of a healthy economy in this globalizing era.

A fifth priority should be to urgently address problems caused by unions.

Survey after survey shows that problems caused by these represent one of the biggest impediments to direct foreign investment in Korea, including investment in the financial sector.

According to the OECD, Korea ranks 17th out of 28 OECD countries in providing employment protection.

Actually, this is an understatement. For all practical purposes, foreign and large domestic companies do not have the freedom to dismiss regular full-time employees.

As a result, they have to pay extraordinary amounts of early retirement entitlements to induce voluntary resignation.

Such practices limit flexibility in hiring and firing workers, and this has been particularly troublesome in the financial sector because being a knowledge-based industry, this sector requires labor flexibility more than any other sector in the economy.

A way to address these problems would be a stricter enforcement of relevant laws and regulations in future disputes between employers and unionized employees.

In the medium and long run, the government should find ways to increase both the amounts and duration of unemployment insurance benefits, which are low in Korea compared to other countries.

Last but not least, it should be remembered that Korea's reputation in strengthening the rule of law has suffered much in recent years on account of the delay in resolving the Lone Star matter.

Over the last year and a half, public policy debates have focused on two issues.

One is whether or not Lone Star was qualified to be the major shareholder of Korea Exchange Bank (KEB) and the other is whether or not Lone Star was involved in the manipulation of stock prices when KEB was acquiring KEB Credit Card.

It is worth noting that in the court proceedings over the first issue, Lone Star is not even a defendant.

No allegations have been brought against Lone Star that it acted improperly in the acquisition of KEB.

On the second issue, court judgment is still pending. Given the fact that the worst-case scenario for Lone Star would only result in an order for Lone Star to sell its shares, it is unreasonable for financial regulatory authorities to delay approval of the potential sale of KEB by Lone Star.

With each day of delay, Korea pays a heavy cost. As long as the Lone Star issue remains unresolved, rightly or wrongly, the international community will continue to believe that Korea welcomes foreign investors only if they do not make too much money. The fact that since 2004, there has been a steady decline in the inflow of foreign investment into Korea is perhaps not just a coincidence.

In conclusion, it may be observed that if the incoming Lee government can come up with appropriate actions on the issues outlined above, it will not only accelerate Korea's progress toward an international financial center, but also greatly restore vitality to the Korean economy.