Turning the Corner

Faced with a critical shortage of foreign reserves in the midst of an Asia-wide financial crisis, Korea applied to the International Monetary Fund (IMF) in November 1997 for assistance. The fund agreed to a standby arrangement involving a total package worth $58 billion in return for Korea entering an industrial and financial restructuring program. During one of the fund's regular reviews of the arrangement conducted in Seoul, Ajai Chopra, Division Chief of the Asia and Pacific Department of the International Monetary Fund (IMF) discussed Korea's progress under the program with KT&I

How is Korea faring economically?

Korea has done remarkably well in coming out of the crisis. Interest rates have stabilized and most importantly, all evidence suggests the economy bottomed out in the fourth quarter. Output fell by five-and-a-half percent in 1998, but possibly in the fourth quarter there was indeed some growth, and at this stage we expect to have positive growth in 1999.

Why has the IMF recently upgraded its outlook on Korea?

When our team was last here in November, we were predicting growth in 1999 of minus one percent, but at that stage we were expecting a downturn for 1998 in the region of minus seven percent. Over the last few weeks we've been getting more information on industrial production, about wholesale and retail sales, and consumption. As I said, all indications are the economy has been bottoming out in the last part of last year. We're now upgrading our forecasts in the wake of 1998's downturn of just five-and-a-half percent in expectation of positive growth this year.

Besides production and sales figures, though, there are also confidence indices put together by the Bank of Korea which indicate an uptick. The rating agencies Fitch and Standard & Poor have upgraded Korea's debt, and money is coming into the stock market. It's all taken into account.

How do you rate Korea's progress under the IMF program?

I'll put it this way. In areas of macroeconomics, progress has been very good.

In the area of structural reform, the process has started and a very good start has been made, especially in the financial sector, but that's just a start. Structural reform needs to be a long-term process and a lot more needs to be done. The framework is in place on the financial side and they're getting on with it. Regarding corporate restructuring, the start has been a little bit slow and we haven't seen enough among the top five chaebol. There are a lot of announcements and there does seem to be some tackling of problems but we will have to see how much progress is made, how much is taken to heart and becomes part of the culture of the chaebol.

Do you feel, as the government does, that financial sector reform is necessary for the restructuring of the economy?

Absolutely. If the financial sector can't be put on a sound footing, it will effect every aspect of economic life, the confidence of the consumer to SMEs and even large enterprises to receive the credit they need for investment and their operations. So unless this is tackled it's hard to see that Korea will be able to return to sustained growth. To restore confidence in the system may require closures, an upgrading of the system, foreign capital, new ways of doing business, new relationships between banks and clients, new ways of appraising credit risk, and, on the side of the authorities, a rigorous setting of standards for the financial institutions, creating as level a playing field as possible.

How does Korea's progress translate into investment potential?

Definitely very positively. A lot of restructuring in the corporate sector involves bringing down debt levels and one way to do that is to bring in foreign capital, and of course to do that, firms will have to demonstrate what they are doing for other foreign investors. In short, I could see a lot of foreign capital coming in. Also, I think attitudes have changed in Korea. If you look back to the cause of the crisis, the trend was to discourage long-term investors, and encourage short-term capital inflows, and as you know, they can be fickle. That lesson has been learned. So, I think the prospects are tremendous.

What is the IMF looking for from the Korean government?

It would call it policy changes. Here, I should point out it's the World Bank which focuses on restructuring, while our area of concern is the financial sector. After a year's experience I see elements in the financial sector which are working, while some are not working as well as we thought. We're looking to upgrade the environment for prudential regulations of the financial system by the newly-created Financial Supervisory Com-mission (FSC).

A part of the problem in Korea is that some of the regulatory system is very weak because it allows banks to extend loans without due care to risk, plus they don't account for them properly if they turn bad. So, we are aiming to upgrade the system to be in line with international best practices. Some progress has been made in tightening up regulations and strengthening the financial regime with the FSC so the banks have to change their behaviour.

Part of the problem is that banks are seriously undercapitalized, although they might not have shown this. The pressure now is to re-capitalize the banks so the capitalization they show is based on well-accepted accounting principals and actually is there to protect the bank from any eventualities which might occur. Also, more in regard to areas concerning the World Bank, we look to improving corporate governance structures, issues such as outside directors, limits on exposure so a bank is not exposed to one industrial group.

Do you agree with the opinion expressed by some commentators that Korea is the IMF's "star pupil"?

Among the Asian crisis countries, we're very encouraged with Korea's progress. Thailand is also doing well. The inflow of capital, the international upgrades, indicate Korea has turned the corner, and, we're no longer dealing with a macroeconomic crisis. However, we shouldn't become complacent. The external environment is not as stable in 1999 as it was in 1997. More unemployment is coming as restructuring takes hold. It would be a real pity that, after all this progress, there is an easing of pressure on the process of restructuring. For sustainable growth to return to Korea, there still is a lot to be done.

by Charles Duerden