Transcript The Finance-Growth Nexus and Financial Opening: The Empirical

The End of Egalitarian Growth in Korea:
Rising Inequality and Stagnant Growth
after the 1997 Crisis
Asia Future Forum
Seoul, Korea
November 24, 2016
Kang-Kook Lee
College of Economics
Ritsumeikan University
Introduction
• Korea in the past: a paragon of the East Asian miracle with
rapid growth and relatively equal income distribution
• Now: a vicious circle of rising inequality and stagnant growth
after the 1997 financial crisis, leading to the highest suicide
and the lowest birth rate
• What happened? Structural changes with neoliberal
economic restructuring and opening after 1997
• Examining the former egalitarian growth model, the financial
crisis and the end of egalitarian growth in Korea from the
historical perspective
• Arguing for the effort of the state to re-establish egalitarian
growth with social welfare and democratic reforms
Egalitarian Growth
in the Miracle Period in Korea
• Higher than 6% economic growth for more than four decades after the
1960s in Korea (World Bank, 1993)
• Effective state intervention including industrial policy, financial controls,
trade protection and capital controls, based on the state with
comparatively developed institutions (Amsden, 1989; Chang, 1993)
• Low inequality contributed to social stability, the developmental state
with strong autonomy and capacity, and human capital investment,
resulting in egalitarian growth (Rodrik, 1997; Alesina and Rodrik, 1994)
• Initial conditions: successful land reform and the Korean war
• Active government policy: efforts for public education, sound and
stable macroeconomic management, and managed openness with
export promotion and effective government regulation (Singh, 1995)
Mismanaged Capital Account Liberalization
and the 1997 Financial Crisis
• Unraveling of the former development regime in the late 1980s,
along the development of capital markets and growth of chaebols’
autonomy in finance (Cho and Kim, 1995; Lee et al., 2002; Singh,
2002)
• Strengthening free market ideology and political democratization,
and the retreat of the state
• Rising demand for financial liberalization and opening from
domestic businesses and external pressure in the early 1990s
• Careless capital account liberalization adopted, with
comprehensive deregulation of foreign short-term borrowings from
1993, financing investment boom of chaebols (Cho and McCauley,
2003)
• Rising foreign debt from $44 billion in 1992 to $120 billion in 1997,
due to skyrocketing foreign short-term debt, making the economy
vulnerable and finally causing the financial crisis
Mismanaged Capital Account Liberalization
and the 1997 Financail Crisis
• Unravelling of the former developmental state, along with the
development of capital markets financial autonomy of chaebol
(Cho and Kim, 1995; Lee et al., 2002)
• Strengthening free market ideology, political democratization, and
the retreat of the state from the market
• Rising demand for financial liberalization and opening from
domestic businesses and external pressure in the early 1990s
• Haphazard capital account liberalization introduced:
comprehensive deregulation of foreign short-term borrowings from
1993 that financed investment boom of chaebols (Cho and
McCauley, 2003)
• Rising foreign debt from $44 billion in 1992 to $120 billion in 1997,
due to skyrocketing foreign short term debt, making the economy
vulnerable and finally causing the financial crisis
Neoliberal Economic Restructuring
and Opening of the Economy
• Neoliberal economic restructuring to establish the more open and
liberalized economy, suggested by the IMF (Crotty and Lee, 2002;
2005)
• Capital-friendly labor market reform and flexibilization, allowing
layoffs and dispatching workers, increasing unemployment and
inequality
• Financial restructuring with shutdown of half of institutions and
injection of public money as large as 30% of GDP
• Corporate restructuring to reduce the debt ratio and to streamline
the structure of chaebols, but limited efforts to reform corporate
governance, causing a decline in investment
• All-out financial opening of capital markets and more deregulation
of foreign investment and foreign exchange transactions, resulting
in increases in FDI and financial instability
Rising Inequality after the Crisis
and Its Causes
• Income inequality rising after the crisis and economic
restructuring: Gini coefficient from 0.264 in 1997 to 0.320 in
2009, mainly owing to wage inequality (Choi, 2013)
• The relative poverty rate skyrocketing from 8.7% in 97 to 15.4%
in 2009, because of the poor becoming poorer
• The top 1% and 10% income share rapidly rising after the crisis,
following the Anglo-Saxon country pattern (Kim and Kim, 2015)
• Asset inequality also rising, higher than income inequality,
associated with the real estate market bubble in the early 2000s
• Irregular workers earn less than half of wages of regular
workers, and the gap between them increasing
• Broad structural, rather than technological, changes and
neoliberal labor market reform after 1997 are responsible for
rising inequality
The Neoliberal Growth Model,
Inequality and Growth
• Economic growth and investment stagnant and unstable with
bubbles and burst, after the 1997 crisis and neoliberal
economic restructuring
• Korean growth became dependent on exports much more and
vulnerable to external shocks, with trade openness 59% in 97 to
110 % 2012 and 85% in 2015
• The labor share and household income share falling while the
profit and corporate income share rising in the 2000s (Kang and
Lee, 2012)
• Changes in the financial system and a decline in corporate
lending while a significant rise in household loans and debt
• The dualized growth pattern emerged, between exporting large
firms and SMC in the domestic demand sector, along with with
structural changes in the economy
Why Inequality is Bad to Economic Growth
• Concerns about rising inequality is rising around the world after the
global financial crisis, and its implication to growth
• Inequality might be good to growth due to incentive effects and saving
effects, however, more recently bad effects are highlighted
• Inequality could depress consumption and domestic demand in short
run, leading to lower investment
• Inequality is harmful to human capital investment of the poor, and thus
bad to productivity and economic growth (Aghion et al., 1999)
• Inequality worsens social conflicts and instability, blocks development
of inclusive institutional development for incentives and innovation,
hindering long-run growth (Alesina and Perotti, 1996; Acemoglu and
Robinson, 2012; World Bank, 2005)
• Empirical studies report that inequality is bad to long-run growth
across countries, and also bad to growth within countries,
emphasizing redistribution for inclusive growth (Ostry et al., 2014)
The Role of the Government for
Egalitarian Growth
• The government role for social welfare still limited compared with
other OECD countries (7% vs. 25% of reduction in inequality) (OECD,
2013)
• Public social spending out of GDP is less than half of the OECD
average, though rising from 3.2% in 95 to 10.4% in 2016
• Serious income inequality with rising household debt depresses
domestic demand: growth pattern changed to wage-led after 1997, so
rising wage can increase aggregate demand (Hong, 2014)
• Rising Inequality represses social mobility based on education, and is
associated with increasing concentration of money and power
• Korea needs to re-establish egalitarian growth, by expansionary fiscal
policy with more welfare and progressive tax reform (IMF, 2016)
• Democratic structural reforms for fairness, strengthening 90% workers’
bargaining power, raising minimum wage and managing financial
openness are called on
Analysis of Demand System in Korea
using Post-Keynesian Model
effect of wage on
aggregate demand:
Consumption
1981~1997
1999~2012
Wage elasticity of consumption (a)
0.35***
0.84***
Profit elasticity of consumption (b)
0.07*
0.32***
Difference (a-b)
0.28
0.52
1.96***
1.69 ***
Output elasticity of investment
Investment
Profit share elasticity of investment
Export
Unit labor cost elasticity of export
Aggregate demand (=C+I+X-M)
Source: Hong, 2014
-0.73
-0.48
-1.22 **
0.50
-0.05
1.24
1% increase in labor share raise 1.24% of
aggregate demand
Conclusions
• The old egalitarian growth model in Korea was associated
with helpful initial conditions and successful government
policies
• It is over after the 1997 financial crisis along with the
structural change of the economy toward the neoliberal
growth model
• But its result was rising inequality and poverty, stagnant
economic growth, and social problems
• Koreans should set up a new development model, based on
a democratic welfare state to break the vicious circle of
rising inequality and stagnant growth
• Political mobilization for this purpose is essential