The Korean Economic Emergency

Beginning in the 1970s, Korea's phenomenal economic growth was dubbed the "Korean miracle" and touted as a model for the developing world. It is clear now, however, that the miracle was largely an illusion.

Korea's accomplishments were built on massive levels of debt and central government control of business decisions. The Seoul government subsidized sprawling business groups, known as chaebols, and simultaneously protected them from foreign competition by shielding domestic markets from foreign investment and imports. Eventually, Korea's $500 billion economy became far too complex for economic bureaucrats to control effectively. Bad business decisions proliferated, and this led in turn to over capacity in core industries and inadequate demand in both domestic and international markets. For instance, while the United States has only three auto makers, Korea has five. Despite sagging sales in markets both at home and abroad, the previous Korean government defied sound business logic and approved the nation's fifth auto company just last year.

Last month, Hyundai Motor Company laid off 8,000 of its 30,000 autoworkers. Around 8,000 more are idle as a result of sharply declining production. Strains upon medium- and small-sized companies are even more serious. Since the economic crash began last November, company bankruptcies have exceeded 3,000 per month. Unemployment, which totaled about 400,000 this time last year, is approaching the 1.5 million level.

Korea's combined domestic and foreign currency debt is estimated to be as high as $730 billion--almost twice the size of its 1997 gross national product. This crushing financial burden brought the Korean economy to its knees late last year, and the previous Korean administration turned to the International Monetary Fund (IMF) for aid. The result was a $57 billion IMF bailout package. A substantial amount of this came from America: The U.S. taxpayer provides about 18 percent of the IMF's total funding.

President Kim's December 18, 1997, election victory and February 25 inauguration were bittersweet events for the former opposition leader, who had long suffered at the hands of past authoritarian Korean regimes. For many years, he criticized the central government planning and massive debt-leveraged growth that wrecked the economy he now is struggling to revive. Once in office, he wasted no time in turning the Korean government's policies in the right direction.

Ending his nation's rock-solid protectionist stance, President Kim has called for fully opening Korea's stock and real estate markets and company equity ownership to foreigners. Korea long has been known to foreign businesses as a difficult and often hostile environment in which to operate; the new president has pledged to minimize government intervention in Korea's economy and welcome foreign investment. During a meeting last month in Seoul, President Kim told representatives of The Heritage Foundation that there are "11,000 regulations hindering companies" in Korea and that he intends to end nearly all of them. He also stressed the importance of ensuring that the government bureaucracy faithfully implements his reforms.

President Kim's concern over implementation is warranted. Korea has an entrenched economic bureaucracy long accustomed to the perks of central government control of business. There are many bureaucrats who will not easily relinquish their authority over banks, domestic industries, and foreign companies. Many remain fiercely protective of the industries they regulate and will not willingly open their portfolios to unfettered foreign participation.

Strong and effective "top-down" implementation of President Kim's liberalization policies is necessary in order to prevent bureaucratic delay. Foreign business confidence in Korea's reforms must be strong before the country can receive the international investment it needs to service its debt and boost its hobbled manufacturing and export base.

The North Korean Stalemate

Although the Cold War has ended, communist North Korea remains a stubborn holdout. Its Stalinist political system is the most oppressive on Earth. Its people have lived under tyranny since the regime's founding in 1948. Its socialist policies have produced one of the world's worst economic basket cases and, in recent years, widespread famine and starvation. Yet the regime still maintains one of the world's largest standing armies and has used its nuclear weapons program to extort support from the United States and the international community.

President Clinton's North Korea policy is firmly rooted in the U.S.-North Korea Agreed Framework. In addition to shutting down its nuclear weapons program in exchange for new reactors, Pyongyang promised explicitly to resume substantive direct talks with Seoul. Until very recently, it refused to fulfill this pledge, preferring to talk directly with the United States. Finally, in April, the North held its first bilateral talks with the South since 1993. These negotiations, held in Beijing, were not encouraging. When the South called for specific steps toward tension reduction in return for supplying much-needed fertilizer to the North, Pyongyang balked. The North not only demanded delivery of the fertilizer before agreeing to any tension reduction steps, but also insisted that Seoul offer much more fertilizer.

With the breakdown of the April talks, it is increasingly clear that current U.S. policy does little more than paper over the threat posed by Pyongyang. The U.S.-North Korean agreement is nearly four years old, yet the North has not delivered on its specific pledge to seek a reduction in tensions through direct talks with Seoul. Nevertheless, the United States, South Korea, and other nations have responded to the North's economic crisis with significant supplies of food and other humanitarian assistance. The North has succeeded in extorting aid from the outside world, but this cannot continue much longer. As it continues its gradual tilt toward economic collapse, it will be able to extract only token aid unless it changes it behavior.

Washington's willingness to tolerate the North's deception and delaying tactics has complicated relations with Seoul. Many South Koreans believe that Washington has been too flexible with the North. One of President Kim's pressing tasks is to redirect joint U.S.-South Korean policy toward Pyongyang. In this regard, he has gotten off to a good start. He has made it clear that the bilateral North-South dialogue channel must be reinvigorated.

In addition, Seoul will require reciprocity from Pyongyang in all official dealings. Future food assistance from the South, for instance, must be accompanied by corresponding North Korean steps toward tension reduction. While the U.S.-North Korea nuclear agreement will remain an important policy cornerstone, the focus of renewed inter-Korean talks should be the Basic Agreements ratified by the Seoul and Pyongyang governments in 1992. Virtually ignored by the Clinton Administration until recently, these pacts outline specific and practical steps toward easing social, political, and military tensions between the two Koreas.

What the U.S. Can Do

Long-standing U.S. political, trade, and security ties with South Korea make the success of President Kim's reform agenda very important to the United States and to the Asia-Pacific region. The Clinton Administration should work closely with the new Korean leader to help his policies succeed. During the coming summit talks, President Clinton should:

• Praise and call attention to President Kim's economic reform policies. President Kim should be urged to expedite implementation of his liberalization package and to be vigilant against Korean bureaucratic resistance that would thwart his plans. Potential American investors already are beginning to doubt whether President Kim's economic vision will be fully realized.

• Embrace President Kim's new emphasis on the primacy of North-South dialogue and his reciprocity principle. Seoul and Washington should stand firm in the face of North Korean defiance. Pyongyang's four-year-old pledge to open the way for productive peace talks with the South must be fulfilled if it expects improved relations with the United States or further assistance from Washington and Seoul. Just as South Korea did in the April Beijing talks, the United States must be prepared to withhold further concessions or aid to Pyongyang unless the North takes parallel steps toward long-overdue tension reduction measures. The yardstick for these measures should be the 1992 North-South Basic Agreements, which called for breakthroughs in such areas as reuniting separated family members; increasing inter-Korean social, political, and economic exchanges; reducing military tensions; and negotiating toward a formal North-South peace accord.