KDI - Korea Development Institute - RESEARCH - Research Areas

Summary

Research Monograph KOR Economic Security and Strategies to Strengthen Supply Chains

On top of the US-China strategic competition, the COVID-19 pandemic, climate crisis, and rising geopolitical risks have pushed economic security and supply chain policies to the forefront of policy dialogue in South Korea. This study examines the factors behind the growing importance of economic security and response measures from geo-economic and traditional economics perspectives, along with analyses of case studies in key sectors. The primary aim of this research is to identify strategies to enhance Korea's economic security.

The policy directions regarding Korea’s economic security presented in this study are as follows: First, Korea should build upon its manufacturing capabilities in advanced industries and actively foster related cutting-edge technologies to secure strategic advantages. To achieve this, industrial policies should be more closely integrated, and supply chain vulnerabilities should be mitigated particularly by reducing dependence on China.

Second, simple localization or domestication of intermediate goods suppliers should be avoided. Instead, the Korean government should actively participate in international joint investment and R&D cooperation to support private-sector investments for diversifying supply chains.

Third, the strategy of large enterprises sharing technological know-how with small and medium-sized enterprises (SMEs) with similar technological development goals has been a key driver of Korea’s high localization rate and international competitiveness in the display industry. Therefore, in promoting the localization of advanced strategic sectors, the government should enhance support for improving the technological capabilities of domestic supply chain firms. Moreover, industry associations should establish various mechanisms and channels to strengthen collaboration between advanced industries firms and supply chain firms.

Fourth, a stable supply of mineral resources urgently requires investment in R&D, international cooperation, and the mobilization of financial resources for large-scale investments. Expanding R&D in mineral resource development technologies and leveraging these efforts as a platform for international cooperation should be prioritized. Additionally, concrete strategies for securing financial resources to support large-scale investments should be explored.

Fifth, when supply chain crises in advanced strategic industries pose risks that can potentially escalate to national crisis level, it is critical to consider adopting the 'emergency acquisition flexibilities' strategy used in defense material procurement. To this end, existing systems should be restructured to enable rapid procurement and response, ensuring greater resilience in times of crisis.

Sixth, to enhance the competitiveness of advanced strategic industries, priority should be placed on expanding power generation capacity through targeted investments in energy infrastructure. Simultaneously, measures such as connecting and expanding power grids, developing smart grids, and diversifying energy resources to improve efficiency should be pursued. As for water resource infrastructure, ensuring quantitative stability requires the multipurpose use of existing infrastructure, the activation of alternative water resources, and the construction of new water resource infrastructure. Additionally, strengthening technological capabilities through localization efforts is essential to securing a stable supply of ultrapure water.

Last but not least, prompt establishment and implementation of a national logistics strategy is required to adapt to changes in the global logistics network. This strategy should focus on securing overseas networks and global logistics hubs, as well as fostering globally competitive logistics companies, and enhancing adaptability to shifts in the logistics environment.

Summary

Policy Study KOR Impact of Carbon-Neutrality Policies:Focusing on Trade and Environment

This study examines the impact of carbon neutrality policies on Korea and explores potential government responses to the rapidly evolving global policy landscape concerning carbon and trade. Specifically, it focuses on the European Union’s Carbon Border Adjustment Mechanism (CBAM) and how South Korea's carbon neutrality policies might influence the CBAM's impact. In addition, it analyzes the effects of each carbon neutrality policy option on Korea’s economy, including trade and GDP, and emissions.

This study finds that the EU CBAM may not affect Korean exports due to its relatively narrow scope of products and emissions covered in the current version of the policy. However, its influence is likely to grow if the scope of regulated products expands and the range of indirect emissions covered increases. The study then considers carbon pricing, green technology R&D, and green supply chain policies as strategic directions for Korea's government to both respond to global policy changes, such as CBAM, and achieve climate neutrality. Although both increasing carbon prices and developing carbon reduction technologies mitigate the negative impacts of CBAM by decreasing CBAM tariff rates, their effects on Korea's production, exports, income, and welfare differ.

Green supply chain policies involve adjusting trade costs according to the carbon intensity and price of intermediate inputs’ origins. This aims to reduce production's embedded indirect emissions and increase the carbon price already paid in source countries. The study evaluates two opposing approaches to implementing this policy: lowering trade costs for 'green' suppliers and raising them for 'dirty' suppliers. The results indicate that decreasing trade costs, as opposed to increasing them, results in higher GDP, greater export competitiveness, and improved welfare. The study shows that although different policy options are themselves effective in responding to CBAM and reducing carbon emissions in Korea overall, their impact on Korea’s economy and emissions are heterogeneous. Therefore, understanding the complex consequences of these policies and selectively implementing them based on the distinct characteristics of the affected industries is crucial.

Summary

Policy Study KOR Empirical Analysis of Political and Economic Relations between the Korean Peninsula and Surrounding Countries: Focusing on Country Relations Index Using Big Data

Recently, tensions between the US and China have been escalating across various sectors, concurrently with rapid shifts in the international arena due to conflicts such as the Russia-Ukraine war and the Israel-Hamas conflict. The Korean Peninsula is also entwined in the fabric of these dynamics. The Taiwan issue, one facet of the US-China rivalry, is linked to the strategic presence of US forces in South Korea, and semiconductors, South Korea's key industry, are among the most affected by the intensifying tensions between the US and China. North Korea's economic and military ties with Russia, as evidenced by North Korea's supply of conventional weapons and materials to Russia in defiance of international sanctions, are strengthening. Given the complex and grave political and economic environment surrounding the peninsula, evidence-based policymaking grounded in objective data becomes indispensable.

This study utilizes Google's Global Database of Events, Language, and Tone (GDELT) to analyze country relations around the Korean Peninsula. The data provided by GDELT quantitatively measures qualitative variables of inter-country relationships, utilizing machine learning and other state-of-the-art technologies to extend traditional event data methodologies to a vast collection of news articles gathered worldwide by Google. However, despite its strength as one of the most comprehensive and objective event datasets available, it is important to acknowledge and address the limitations such as the reliability and scope of news sources and potential errors in event identification and classification.

Using trade data and GDELT, this study examines the economic and political dynamics between the US and China for time-series econometric analysis―what drives the US-China conflict, which country triggers cooperation and conflict, how the other country responds, and whether these outcomes vary over time. This analysis reveals that before President Xi Jinping's tenure, US-China relations were primarily influenced by trade, with a notable positive correlation between increased trade and more favorable relations. During this period, their interactions appeared to have no significant impact on each other. However, since the beginning of Xi's presidency, China has actively responded to US diplomatic protests and corrective measures. Empirical analysis supports this move, which aligns with China's strategy to assert itself as a global power through expanded political and military influence, underpinned by its economic growth. The shift towards mutual diplomatic and security issues over economic variables in influencing US-China relations indicates that future tensions are likely to arise from areas such as Taiwan rather than trade.

The study further explores inter-Korean relations and the dynamics among countries surrounding the Korean Peninsula, investigating how the US-China power dynamic, bilateral relations, and interactions among neighboring countries influence the two Koreas. Findings indicate that the US-China power dynamic and relations have a significant correlation with South and North Korea's external relations with these superpowers but exert minimal impact on the peninsula's international relations. This suggests that the US-China relationship is a major factor in shaping the external relations of both Koreas without directly affecting the internal tension or peace. However, it is important to acknowledge that the recent escalation in US-China tensions, if it has fundamentally changed the geopolitical context surrounding the Korean Peninsula, might render predictions based on historical data incomplete.

This study showcases an analysis of inter-state relations using quantified objective data. The data, methodology, and findings presented are expected to serve as reference materials for formulating future foreign policies.

Summary

KDI FOCUS The Global Trade Environment in the Biden Era and Response Strategies for Korea

□ Many expect that the trade war between the US and China will persist, and East Asia’s global value chains will undergo a significant transformation in the mid- to long-term, as China’s contracts while that of ASEAN expands. Accordingly, to effec-tively respond to the coming changes, Korea should adopt proactive strategies to join the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), and attract quality FDI in an effort to realize sustainable growth.

- Biden’s trade policies highlight fair trade, which indicates that the US will maintain its hardline stance toward China.

- The policies of the new administration could drive the transformation of East Asia’s GVCs.

- It is too early to tell if China’s trade will remain sluggish. But, from a midto long-term perspective, East Asia’s GVCs will likely undergo some change due to China’s trade depression and diversion.

- Statistics confirm the structural changes in China which could diminish its share of East Asia’s GVCs.

- The US strategy of remodelling GVCs around itself, particularly in future technologies like 5G and AI, will likely have a huge impact on East Asia’s GVCs, especially in the electric/ electronic industry which accounts for 25% of China’s imports and exports.

- The CPTPP’s rules of origin could change the GVCs in East Asia via the trade diversion effect.

- Concerns over sensitive issues related to the CPTPP, such as market openness, policy loans, and fisheries subsidies are largely based on weak arguments.

- The longer Korea remains a non-member of the CPTPP, the bigger the decline will be in its exports. Accordingly, Korea must at least join the agreement before China.

- Attracting prime FDIs can serve as an effective policy to raise the investment necessary for sustainable growth.

- The US-China trade war presents Korea with an opportunity to attract more high-qualtiy FDIs.

- To take advantage of this opportunity, concession schedules in the Korea-China FTA should be pushed up.

- In the Korea-China FTA, the share of products subject to a five-plus-year tariff phaseout is relatively high in most industries.

- Joining the CPTPP is another effective policy to attract quality FDIs.

- A strategy to attract quality FDI is needed to drive the success of the ‘Korean New Deal’ initiative.

- From an economic policy perspective, the ultimate goal of trade liberalization is to improve the productivity of the overall economy which can be achieved through trade agreements such as the CPTPP.

- The fallout from firms exits due to the high level of trade liberalization should be not countered with trade policy, but with welfare policy.

- The emphasis of trade adjustment assistance should be placed on supporting workers. Meanwhile, agricultural policy should focus on preserving the income of farmers and strengthening their competence through a public-purpose direct payment system.

Summary

KDI Policy Forum Trade Liberalization and Manufacturing Productivity Changes in Korea During the Past Three Decades

■ One of the key goals of trade policy, which includes FTAs, should be the enhancement of productivity in the overall economy through the improved productivity of the tradable sector.

- This can be achieved by ① enhancing the productivity of existing firms, and ② eliminating lowproductivity firms to improve overall industrial productivity.

■ This study examines the effects of Korea’s trade policies in terms of bolstering the productivity of existing firms in the tradable sector. It shows that Korea’s FTAs with major trade partners, such as the EU, US and China, have failed to provide meaningful impetus.

■ As for raising productivity through firm exits, this study confirms that it has a positive impact on raising total factor productivity (TFP) across industry. However, further studies are needed to substantiate that this is owed to trade liberalization.

■ To raise overall economic productivity, future trade policies should be designed ① to enhance the productivity of existing firms, and ② expel those with low productivity. A trade policy-driven expansion of imports and exports could brighten the prospects for the tradable sector, encouraging firms to boost productivity.

■ It is imperative that efforts are made to increase the positive effects of trade liberalization and minimize the negative effects on society by shifting the focus of the current Trade Adjustment Assistance system towards supporting workers instead of firms, and improving retraining and vocational programs for the unemployed, among others.

Summary

KDI FOCUS Mounting Uncertainties in the Global Trade Order and Korea’s Policy Response

□ The US-China trade war is propagating uncertainties within the global trade order, weakening global value chains and the WTO system. These uncertainties pose a considerable threat to the Korean economy which is heavily dependent on foreign trade. To tackle this, the Korean government needs to positively consider joining the CPTPP and make efforts to improve the effectiveness and efficiency of policies for the materials and components industries as well as export support.

- The US-China trade conflict is generating uncertainty over the global trade order and economic prospects.

- This study compares and analyzes the impact of the US-China trade war on major manufacturing countries and presents the policy countermeasures for Korea.

- The trade war between the US and China is already having a tangible impact, particularly on major exporting countries such as Germany and Korea, weighing down on their GDP growth.

- Mounting uncertainties in the global trade environment and growing trade protectionism pose a great threat to Korea as its economy is heavily dependent on manufacturing exports.

- Compared to Germany and Japan, Korea is likely to experience more negative effects from the trade war due to its export structure.

- The US-China trade conflict could directly/indirectly reduce Korea's exports, which in turn, could lead to a fall in GDP.

- The analysis found that due to the differences in export volume and exportto-GDP ratios between the two countries, China is likely to be hit far harder than the US as a result of the intensifying trade disputes.

- Most of the negative impact on the Korean economy from the trade war derives from the reduced exports to China. Also, the electronics and chemical industries were hit hard.

- The US’ trade policies are highly likely to disrupt the WTO trading system and GVCs. Korea’s future policies need to focus on responding to the changes in the global trade order, including the weakening of the WTO system and GVCs and ensuing fall in global trade volume.

- Korea’s accession to the CPTPP is a necessary approach to reduce its dependence on exports to China.

- Japan’s export restriction on Korea is a testimony of the weakening WTO system due to the abuse of the national security exception clause.

- To cope with a weakening WTO system and GVCs, efforts should be made to increase the effectiveness and efficiency of support policies for the material and parts industries.

- There should be efforts to improve the effectiveness and efficiency of the export support policy which is needed to alleviate Korea’s high concentration of export products and destinations.

Summary

Research Monograph KOR Transformation of Korean Foreign Economic Policy for Innovation Growth: Manufacturing, Agriculture, and Agro-food Industry

Innovation growth is vital to the Korean economy. To achieve it, the government must overhaul its international economic policy, which mainly aims at promoting exports and protecting domestic industries, and set about shifting to a competition-friendly stance. Accordingly, this study reviews past accomplishments in manufacturing, agriculture, and food manufacturing; all of which should be considered important in international economic policy. It then looks further into the challenges and problems, and presents suggestions for the future policy direction.

Import barriers such as tariffs are main instruments of the manufacturing industry’s international economic policy, and with their dual aspect of ‘economies of scale’ and ‘strengthening market competition,’ they exert great influence on domestic market competition, which then affects the innovation environment. The increased export opportunities, made possible by trade liberalization, creates an advantageous environment for highly productive export companies. However, the rise in imports resulting from the opening of the domestic market can also bring more disadvantages to marginal firms in the domestic market, leading to corporate restructuring and the exit of low-productivity firms―which could, in fact, lead to an overall improvement in industrial productivity. This study focuses on the channel through which free trade measures, particularly those to ease import barriers, enhance overall industrial productivity by triggering the exit of low-productivity firms, and then examines the effects of the exits on Korea’s manufacturing productivity. The difference-in-differences methodology, proposed by Pavcnik (2002), was used to look into the relationship between trade liberalization and manufacturing productivity, considering that it is difficult to analyze the direct causal relationship between the two.

The analysis results reveal that, firstly, the TFP growth in the trade industry was positively affected by the exits, and in terms of the overall manufacturing industry, they were mainly observed among firms with low TFP. Secondly, since the 1990s, the TFP of the trade industry compared to the non-trade industry presented a statistically meaningful increase only in the 2000s. In order to invigorate the innovation in Korea's manufacturing industry, future international economic policies should accept the positive functions of the exits and minimize the negative through welfare policy. Korea's Trade Adjustment Assistance is a representative program of such a welfare policy. However, the majority of the funds is being used to finance FTA-affected companies, providing loans to cover equipment costs and delaying the exit of lowproductivity firms. It is undermining the aforementioned positive function, and the policy focus should be shifted towards retraining workers.

As proposed by R. Putnam (1988), who claims domestic and international policies are inseparable when in pursuit of innovation growth in agricultural and rural areas, Korea needs to develop domestic policies that contribute to enhancing international policies. Due to new phenomena such as aging farming communities, separation of agriculture and rural areas, public’s perception of the consumptive function of rural areas and limits of fiscal expenditure-driven improvements in agricultural competitiveness, the past policy stance, which emphasizes production in agricultural and rural area development, is causing a series of problems: biased government support; unbalanced supply and demand of agricultural products and; excessive concentration of agricultural production. To alleviate these obstacles, a ‘public-purpose direct payment system’ should be introduced. And to make this successful, the government should comply with the system principles, identify farmer’s cost in producing public goods, and establish specific standards for these goods.

The food manufacturing industry is becoming increasingly important in the Korean economy and is now recognized as a key growth engine. This study analyzes the innovation of the industry from three perspectives: export competitiveness of food manufacturing firms, small food manufacturer-driven cooperation with large retailers, and international policy centered on the tariff rate quota. Each perspective is accompanied by a separate analysis of domestic and international market policies for innovation growth in the industry. The result shows that the domestic market needs a strategy to revive the food tech industry which is attracting large investments in advanced economies and to adopt a ‘choose and focus’ strategy for the alternative food and materials industries. In addition, the groundwork must be laid down for innovative growth in the domestic food processing industry by seeking cooperative relationships between food processing companies and large retailers via the elimination of unfair trade practices. Given that food markets are relatively more open compared to the agriculture industry in overseas markets, this study analyzes export competitiveness and the tariff rate quota, a significant international policy instrument that can affect the competitiveness of the food industry. According to the decomposition analysis of the RCA index, key sub-items leading the global food industry are other food preparations e.g. coffee, ginseng, and dried laver and flour and preparations made from cereals e.g. ramyeon and bread. The analysis shows that the innovation growth of the food industry requires a ‘choose and focus’ stance for sub-items that can greatly contribute to export competitiveness, and this can be summarized into a strategy of processing exports which is based on a flexible operation of the tariff rate quota.

Summary

Policy Study KOR The Impacts of Exports on the Structure and Productivity of Korean Manufacturing

Exports, once the main driving force of the Korean economy, have contracted recently, deepening concerns about the nation’s economic future. The splendid growth in manufacturing from the 1960s was a strong foothold for economic development, but now the outlook for the industry does not appear to be promising. What should be a vital impetus in the future is not the input of productivity factors such as labor or capital, but an increase in the total factor productivity (TFP). Enhancement of a nation’s FTP can be achieved through several, diverse policies: R&D policies aiming at heightening corporate productivity through more R&D infrastructures and commercialization; larger freedom of market entry and exit; competition policies aiming at boosting the market; and trade policies, too.

International trade since the 1990s exhibited an unprecedentedly high growth, going through seismic changes, such as the rise of China and developing countries and the expansion of the global value chains (GVCs). These changes caused Korea’s trade to rise by a large margin, and Korea’s dependence on trade has deepened more and more after the Asian financial crisis in 1997. Its exports accounted for only 22% of the nominal GDP in the early 2000s, but expanded to approximately 42% in 2011. In addition, it is true there are concerns about that exports have not shown as strong a trickle-down effect of boosting employment and growth as in the past. Under this condition, it would be of great significance to look closely at what impacts have been brought to Korea’s economic productivity by the increased exports.

This paper intends to analyze the impacts that Korea’s exports after the 2000s caused on the increase in exporting firms’ productivity through a learning-by-exporting mechanism. Unlike its precedents, this study focuses on interpreting the significance that Korea’s rising exports to China and developing countries—one of noticeable characteristics of Korea’s exports since the 2000s—have to do with its economic productivity. To that end, the author used trade statistics to identify the characteristics of Korea’s export structure, and combined industrial statistics with trade statistics to track down changes in relevant industries. The analysis finds that manufacturing firms exporting to developing countries experienced less or almost zero increase in their TFP compared to those exporting to advanced countries. This finding implies that the strength of the trickle-down effect from exports has waned in terms of productivity as well as employment, and the waning was mostly driven by the increased exports to developing countries.

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