Economic Relations between South Korea and China - Essay Example

Economic Relations between South Korea and China Introduction( little bit of background info about China) Trade and more so economic relations between different nations has been the beauty of the global linkage that has happened over the past few centuries. In this paper, I will discuss the relations that exist between South Korea and China in terms of trade and look at it from an economic standpoint. For centuries, China stood as a leading country, easily outpacing other countries in the fields of arts and sciences. In the 19th and the earlier part of the 20th century, however, China was overwhelmed by civil unrest, major famines, military defeats and foreign occupation. It seemed like China would never catch up with the Western developed countries economically, but after the 1978 reform period, Deng Xiaoping, a hero of China, focused on market-oriented economic development and by the year 2000, output had quadrupled. Relations between South Korea and China The relations between Korea and China had ceased during The Cold War, but the reestablishment in 1992 of formal diplomatic relations between the two countries, the same led spurred a surprisingly rapid growth of bilateral economic exchanges. Before the establishment of official diplomatic relations, the bilateral trade volume between the two countries was not significant. However, since official diplomatic relations were established, trade relations between the two countries have changed dramatically. Trade volumes have increased explosively, except for a temporary lag in the year 1998 when the Korean economy faced serious problems in the aftermath of the Asian financial crisis. Since then, the two countries have maintained relations of significant economic interdependence. Table 1: South Korea’s Trade with China, 1992-2003 Source: Korea International Trade Association, KOTIS database Korea’s Trade with China From this data, it appears that Korea’s trade with China has increased since the year 1992. In the 1992-2003 time frame, exports of Korean goods to China increased at an annual rate of 26.5 percent, while Korea’s imports of Chinese goods increased at an annual rate of 17.5 percent. 1 The share of exports to China out of Korea’s total exports rose from 3.46 percent in 1992 to 18.11 percent by 2003; the share of imports of China rose from 4.56 percent of Korea’s total imports to 12.25 percent by 2003.2 In 2001, China became Korea’s second-largest export destination, overtaking Japan. The reasons for such successful bilateral economic exchanges are economically complementary structures, geographic proximity and cultural familiarity. 3 The recent brisk exports from Korea to China are due, at least partially, to the fact that the Chinese economy, because of China’s entry into the World Trade Organization (WTO), is growing quite rapidly. With this growth has come demand for electronic equipments such as Korea’s semiconductors and communications equipment. Korea’s main export to China included intermediate goods such as electrical machinery, nuclear reactors, boilers, plastics, petrochemical products, iron and steel. 4 As you can see from Table 2, this pattern of trade reflects the economic complementary structures of South Korea and China. During the 1997-2002 era, parts and intermediate goods made up between 69.4 percent and 76.1 percent of Korea’s exports in terms of manufactured goods towards China. 5 Table 2: Exports of Manufacturing Goods to China, 97-02, in millions of dollars Source: Trade Research Institute of the Korea International Trade Association. Korea’s Imports from China Korea’s imports from China are currently undergoing a structural transformation. China has begun to manufacture a rising volume of electronic and electrical components which are to be exported abroad. It means that both Korea and China are entering into a highly competitive market with regard to certain commodities such as electrical machinery and optical instruments. Table 3: Korea’s Imports from China Source: Korea International Trade Association, KOTIS database The structural change in Korea’s imports from China is substantiated by Table 3, which shows that the share of imports of raw materials decreased from 67.77 percent to 37.36 percent in the 1995-2003 period, the share of capital goods increased significantly from 8.05 percent to 33.41 percent, and the share of consumption goods increased slightly from 24.15 percent to 29.22 percent. 6 So, it is inevitable that South Korea and China have a real tough competition with each other in the near future. Trade Imbalance Bilateral economic exchanges between China and Korea also generate a negative effect such as trade imbalance. Korea has recorded trade surpluses with China since the year 1993 and this trade imbalance between two countries has been generally expanding thereby marking the trade imbalance one of the tough bilateral trade issues.7 In 2002, Korea achieved a record trade surplus with China of about $6.4 billion.8 In 2003, Korea’s trade surplus with China increased further to $13.2 billion. On the other hand, China’s competitiveness in fiber processing, textiles, and garments has been improving continuously and in the year 2002 China began to enjoy a trade surplus with Korea in sectors such as garments, cotton textiles, silk products and natural fiber products. 9 It has long been recognized that the existence of a bilateral trade surplus or a deficit can be a misleading indicator of microeconomic competitiveness and macroeconomic imbalance. Nonetheless, the bilateral trade imbalance has been one of the key issues in trade disputes all around the world. 10 The widening trade imbalance could, therefore escalate into a full-blown trade dispute between the countries involved. So, it is essential to prevent a potential trade dispute between Korea and China in order to sustain the expansionary trend of mutual economic exchanges in the future. Foreign Direct Investment (FDI) Foreign Direct Investment (FDI) is another useful measurement to observe the bilateral relationship between South Korea and China. Since 1992, Korean FDI into China has been increased remarkably as Table 4 shows. After 1994, China became the second most attractive destination after the United States. FDI fever towards China diminished significantly after the year 1997 because of devastating financial crisis in East Asia. Most of the Korean companies simply did not possess the financial capability to invest in China. However, as the Korean economy started to recover from the crisis, Korea’s FDI into China increased sharply as a result. Table 4: Korea’s FDI into China, 1988-2003 Source: Bank of Korea, www.koreaexim.go.kr/ In the year 2003, China began to overtake the United States as most preferred destination for FDI outflows and the number of Korean FDI projects in China accounted for 59.7% of the total number of Korean foreign investments.11 Three Features about FDI to China There are several interesting features of Korea’s FDI into China. First, Korean FDI into China has been biased towards the manufacturing sector because China plays a crucial role of a production base for Korean enterprises due to much cheaper labor in China. In 1994-2003 period, manufacturing sector made up 80 to 90 % of total FDI to China. Table 5: Composition of Korea’s FDI to China, 1994-2003 Source: Bank of Korea, www.koreaexim.go.kr/ Within the manufacturing sector, the top four sub sectors were textiles and apparel, chemical products and petroleum, machinery and equipment and electronics and telecommunications equipment.12 Cheap labor is one of the biggest factors that attract Korean firms to invest in China, and thus, Korean FDI in China is the main channel for bilateral trade between Korea and China. Second, as Table 6 shows, a majority of Korean firms that invested into China are small and medium enterprises (SMEs). It was the reason of SMEs rather than larger firms that played a dominant role in terms of FDI to China. There are a couple of other reasons for Korean firms’ dominant role in China; one of them is the geographic proximity of Korea and China.13 Proximity makes it relatively easy for Korean SMEs to get involved in Chinese markets even with relatively lower financial capability compared to larger firms. Another factor is the significant complementarily of industrial structures of two countries. Both these factors allow Korean SMEs to engage in business in China despite of their disadvantages in terms of collection of information and ability to fund projects. Table 6: Number of Korean FDI Projects in china, percentage. Source: Export-Import Bank of Korea, www.koreaexim.go.kr/ A third observation about Korean FDI in China is that investments tend to be clustered in several coastal regions in China because theses places offer better business environments for Korean companies. Shandong is the most popular place and it accounts for more than 30 % of Korean projects and about 25% of total Korean investment in China. 14 Shandong is followed by Tianjin, Jiangsu, Liaoning and Shanghai in terms of amount of FDI.15 Investment-promoting government policies, ethnic connections, better infrastructure and the abundance of skilled labor in these areas are keys to attract Korean FDI. These days, in Asia, there is a widespread fear that China, the world’s fastest growing economy, will pose an economic threat to many countries in Asia. A decade ago, China’s potential threat did not seem to be a serious issue in Korea. However, recently, an increasing number of Korean firms are relocating their production base to China, seeking for cheaper labor. This phenomenon is called “hollowing out.” Hollowing out is an overseas exodus of domestic manufacturers to restore international competitiveness.16 After manufacturers in South Korea shift production base to China in need of better environment for production, Korea began to become de-industrialized. For example, in 2003 Samsung announced plans to transfer its personal computer production to China by the year 2005. Posco also announced plans to build a $20 million steel plate plant in China by 2005 to supply Shanghai car industry, and LG, another high-profile Korean firm, plans to boost their R&D activities in China.17 Apprehension about hollowing out would be unnecessary if more sophisticated industries replace departing industries, but the serious problem is that the sophisticated industries are moving out. If this hollowing out keeps occurring at a rapid pace, the negative effects such as unemployment and increasing economic instability of certain regions, cannot be avoided. In addition to hollowing out, China is also causing Korea to lose competitiveness in the world market. The most direct way of judging this competitive impact is to examine changes in market share for China and Korea.18 Lall and Albaladejo (2004) use a simple classification to organize the data. For any given market five groupings are possible. 19 Using the terminology of the authors these are: − partial threat: where China (PRC) and the economy concerned gain market share, but China gains more; − no threat: where both China and the other economy gain market share, but with China growing more slowly; − direct threat: where China gains market share and the other economy loses it; − China under threat (or reverse threat) where in this instance China loses market share and the other economy gains; − mutual withdrawal: where both China and the other economy lose market share. Table 7: PRC threat to NIEs in the world market 2000 (% of total exports) Source: Lall and Albaladejo(2004) From this table above, it appears that China’s neighboring countries including South Korea have a majority of their exports under some form of ‘threat’ and the countries with the more sophisticated trade structures with a high share of high technology exports are those where direct threat is the greatest. So there is no doubt that Korean economy is also under threat with the rise of China. Potential economic threats to Korea that have become apparent by the rise of China, such as losing international competitiveness and the hollowing out of some domestic industries, should be carefully investigated. Future Prospects about the relation between Korea and China However, at least for now, China is more likely an opportunity than a threat to South Korea. One of the beneficial effects of FDI is the promotion of exports. FDI can promote the exports of a home country through intra-firm trade between a parent company and its overseas affiliates. 20 In addition, the rise of China offers an excellent chance for Korea to be a key supplier of China’s booming economy for such items as memory chips, computers, LCD monitors and mobile phones. The bilateral economic relations between South Korea and China have given South Korea opportunities to prosper economically, but this relationship also possesses potential threats to Korea: if problems such as losing competitiveness and hollowing out are not corrected in the long term, China, as an economic powerhouse, would quickly become a serious threat to Korea rather than the great opportunity it is now offering. Thus I presented in this paper with the help of statistics and data the finer aspects of the trade which is present between South Korea and China outlining the imports and exports to the two countries by each other. My focus, for the better part of this paper has remained on establishing the tenets and significant touch points where the two countries meet at a common platform. Bibliography Chung, J.H. (1988). South Korea-China Economic Relations: The Current Situation and Its Implications. Asian Survey 28, 1031-1048. Dollar, D. (1989). South Korea-China Trade Relations: Problems and Prospects. Asian Survey 29, 1167-1176. Export-Import Bank of Korea, www.koreaexim.go.kr Hsiao, F.S.T. & M.W. Hsiao. (2004/8). The chaotic attractor of foreign direct investment--Why China?: A panel data analysis. Journal of Asian Economics 15, 641-670. Kang, S.J. & H.S. Lee. The determinants of location choice of South Korean FDI in China. Japan and the World Economy In Press, Corrected Proof. Kobayashi, Hideo. Response of South Korea, Taiwan and Japan to the Hollowing Out of Industry. (Graduate School of Asia-Pacific Studies, Waseda University). Korea International Trade Association, KOTIS database, www.kita.org/ Kim, Si-joong, Implications of China’s Accession to the WTO for Korean Economy, In China’s Integration with the World Economy: Repercussions of China’s Accession to the WTO, ed. Lee, Kyung-tae et al. (Seoul: KIEP, 2002) Lee, C.S. and Lee C.K., “Korea’s FDI into China: Determinants of the Provinvial Distribution,” working paper 02-16 (Seoul: KIEP, 2002) Lee, Doowon., Trade Balance Effects of Korea’s Foreign Direct Investment into China., (Economics Department, Yonsei University, Seoul, Korea. Lim, Y. (2003/4). Korea-China industrial and technological cooperation and further development strategy. Journal of Asian Economics 14, 283-309. Trade Research Institute of the Korea International Trade Association, www.kita.net/. “Survey on Korea Affiliates in China” (in Korean), (Seoul: KITA, 2003). Weiss, John. People’s Republic of China and its Neighbors:Partners or Competitors for Trade and Investment?. ABD Institute Research Paper Series No.59 (August 2004) Word Count: 2,132 Read More