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 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

Policy Study KOR The Impact of External Uncertainty Shocks in Korean Economy

This paper explores the effects of external uncertainty on South Korea’s real economy. By exploiting variations in geopolitical risks posed by Russia and the uncertainty surrounding US monetary policy ― both of which are plausibly exogenous to the Korean economy, the study reveals that such uncertainties negatively impact Korea’s key domestic macroeconomic variables. Notably, this adverse effect is distinctively evident in sectors like exports and manufacturing due to their high sensitivity to external demand dynamics. Using micro-data, the study further indicates that external uncertainty significantly reduces (i) exports to low-income countries and (ii) exports of capital goods. Additionally, the analysis confirms that financial constraints and the irreversibility of investment decisions play pivotal roles in amplifying the effects of external uncertainties.

This study enriches the existing literature by quantifying the impact of external uncertainty using novel instruments ― the geopolitical risk emanating from Russia and the uncertainty surrounding US monetary policy. These findings can offer insights that can guide the formation of resilient policy, aptly designed for a dynamic external landscape, while providing a comprehensive understanding of how external uncertainty influences real economy at both macro and mirco levels.

Summary

Research Monograph KOR Managing Changes in Korea’sExternal Economic Conditionsamid the US-China Rivalry

This study analyzes tensions between the US and China, employing different viewpoints of international politics, supply chain disruptions, and ripple effects on the real economy and financial market, and presents the following implications. Firstly, the US strategic approach to China shows that, unlike the previous Trump administration, the Biden administration maintains tensions and competition but stays away from direct conflict or confrontation. In response, South Korea should broaden its relations with the US to a more comprehensive diplomatic and economic alliance. At the same time, its strategic communication channel with China should remain open while strengthening its global strategic networks with other major countries. In doing so, South Korea must secure its position as a middle-power nation that can coexist among the great powers. Secondly, supply chain disruptions triggered by the US-China rivalry can be regarded as a geopolitical risk in global supply chains since the disruptions come from trade sanctions and foreign investment restrictions they are using against one another. Accordingly, South Korea needs to set up a risk management framework which includes an early warning system to enable preemptive responses based on risk measurement and evaluation. Thirdly, as the global supply chain shock caused by the conflict between the US and China is persistent and long-lasting, South Korean firms may experience greater shocks than during the COVID-19 pandemic. What would help counter this shock is to lay down the necessary infrastructures to upgrade its supply chains that can support the diversification of supply chains and networks of domestic firms and establish a smart logistics system. Lastly, financial sanctions against China by the US have the potential to significantly decrease foreign capital flows in the Chinese market, escalating capital outflow risks. Hence, it would be desirable for South Korea to monitor its linkages with Chinese financial institutions and to take appropriate preparatory actions to avoid the risk of economic sanctions targeting China by forming a cooperative relationship with the sanctioning authorities in the US.

Summary

Research Monograph KOR Political Economy of the Changing International Order in East Asia: Issues and Challenges

This volume provides a compendium of collective discussions by senior ROK economists and security analysts who have observed and analysed the changes in the East Asian economic and security orders prompted by the rise of China. It consists of eight independent but closely interconnected analytical papers on East Asia’s changing international order and one collective discussion on the related ROK national agenda.

Of the eight analytical papers, the first conceptualizes the developments in the East Asian international order in regards to economic and security interaction. And based on such concepts, the second examines the patterns, factors and direction of the changes in the economic sphere while the third undertakes security. Taking lessons from history, the fourth paper studies the empirical cases of international power shift both on the world stage and in East Asia since the First Great Depression in the 1930s. This is followed by an additional four papers each of which studies the national strategy of major East Asian countries such as the US, China, Japan and Russia, respectively.

Finally, the ninth paper summarizes and presents the ROK’s national agenda on the aforementioned changes in terms of: the direction of economic development; strategic stance within the US-China power struggle; new visions for ROK-US alliance; perceptions on the great divergence between economy and security in the relation to China and; the strategic approach to Japan and Russia, amongst others.

Summary

Research Monograph KOR Structural Changes of the Chinese Economy and New Opportunities for Korea (Volume 1)

Since the reestablishment of diplomatic relations between Korea and China in 1992, the two economies have become increasingly interdependent and mutually beneficial. The robust growth of the Chinese economy was a major force behind Korea’s successful recovery from two major economic shocks within a decade —the Asian Foreign Exchange Crisis in 1997 and the Global Financial Crisis in 2008. Nevertheless, as Chinese firms aggressively grapple for Korea’s export market shares and diminish profit margins, China starts to be reckoned as a threat for Korea. Further, its recent slump has been deemed as risk factor for Korea. The rapid cooling off has already exerted some adverse effects on the Korean economy.

So, what is the current state of the Chinese economy and how much has the economic relationship between the two countries changed? How should we view the hardships of Korea’s industries incited by the massive expansion of China’s shipbuilding, steel, and chemical industries? What are the real causes for the demise of Korean industry? Why is the Chinese economy experiencing a simultaneous collision of overinvestment, instability and slow growth? Will China’s renewed efforts for structural reform, exemplified by the ‘New Normal’ and ‘Chinese Manufacture 2025,’ be successful and if so, what are the implications for the Korean economy? How should the trade relationship between Korea and China change in the future? What strategy should Korea employ if it is to benefit from China’s transition from manufacturing to services and from an export-driven to a domestic demand led growth? This report will try to answer these questions, albeit possibly imperfectly.

Just as China’s industrial overcapacity is behind Korea’s shipbuilding and steel industry crises, China’s structural problems are behind their overinvestment. And in order to correctly understand the relationship between the two economies, one needs to follow China’s economic transformation itself. Accordingly, this study takes a multi-dimensional and holistic approach and deals with not just trade relationship but also the evolutions and shifts in the structure, competition laws, and the consumer market of China’s economy as understanding the changing relationship between Korea and China and its implications necessitates broader analysis.

This report is the output of a team research project conducted by the KDI Department of Industry and Service Economy in 2015, participated by ten team members and seven outside contributors. Initially, the research was motivated by the presumption that the Chinese economy has become a threat for Korea’s industries. Indeed, the technological gap that Korea has enjoyed has quickly disappeared and in several areas, China currently produces far more sophisticated goods. Naturally, this report puts more weight on the competition relationship than on the macro interdependency of the two economies. As the project progressed, however, another facet of the relationship, i.e. the Chinese economy becoming a risk factor for the Korean economy, presented itself as it became clear that the slowdown in China’s growth in 2015 was larger than expected. Korea’s real export growth in 2015 registered the lowest level with 0.8% since hitting -0.3% in 2009 in the midst of the global financial crisis. Exports to China fell by 5.6% in current dollars, accounting for the majority of the drop.

As this report shows, Korea and China have developed an even more interdependent and mutually beneficial relationship as the two geographically close economies successfully maintained high economic growth. And because they took on similar growth strategies, they have also become fierce competitors in many fields. But, intra-regional trade has grown even faster, revealing that the relationship has been a mutually beneficial one. The current problems in both countries’ industries have been created from within and the risk factor aspect is a direct consequence of interdependency.

The Chinese economy is steadily and methodically marching towards becoming a manufacturing giant, conducting systematic experiments and trial-and-errors, and exploiting its vast domestic market to overcome the disadvantage of being a late-comer. However, it is not free from its own constraints as a big country and is subject to socialist rigidities. The current over-capacity and investment overlaps are consequences of this, as well as a lack of coordination. On the other hand, Korea is faced with spatial limitations of a small domestic market and a lack of time to experiment as advanced countries did in the past. However, as a small country, it has a flexible and agile economy with a high degree of social integration which makes policy manuvers feasible. Therefore, if China’s growth and structural transformation is to become an opportunity, the Korean economy should be able to create an open and flexible system and maintain institutional superiority over a big country. And the society’s ability to resolve conflicts of interest during industrial restructuring and deregulation is the key.

Summary

Research Monograph KOR Structural Changes of the Chinese Economy and New Opportunities for Korea (Volume 2)

Since the reestablishment of diplomatic relations between Korea and China in 1992, the two economies have become increasingly interdependent and mutually beneficial. The robust growth of the Chinese economy was a major force behind Korea’s successful recovery from two major economic shocks within a decade —the Asian Foreign Exchange Crisis in 1997 and the Global Financial Crisis in 2008. Nevertheless, as Chinese firms aggressively grapple for Korea’s export market shares and diminish profit margins, China starts to be reckoned as a threat for Korea. Further, its recent slump has been deemed as risk factor for Korea. The rapid cooling off has already exerted some adverse effects on the Korean economy.

So, what is the current state of the Chinese economy and how much has the economic relationship between the two countries changed? How should we view the hardships of Korea’s industries incited by the massive expansion of China’s shipbuilding, steel, and chemical industries? What are the real causes for the demise of Korean industry? Why is the Chinese economy experiencing a simultaneous collision of overinvestment, instability and slow growth? Will China’s renewed efforts for structural reform, exemplified by the ‘New Normal’ and ‘Chinese Manufacture 2025,’ be successful and if so, what are the implications for the Korean economy? How should the trade relationship between Korea and China change in the future? What strategy should Korea employ if it is to benefit from China’s transition from manufacturing to services and from an export-driven to a domestic demand led growth? This report will try to answer these questions, albeit possibly imperfectly.

Just as China’s industrial overcapacity is behind Korea’s shipbuilding and steel industry crises, China’s structural problems are behind their overinvestment. And in order to correctly understand the relationship between the two economies, one needs to follow China’s economic transformation itself. Accordingly, this study takes a multi-dimensional and holistic approach and deals with not just trade relationship but also the evolutions and shifts in the structure, competition laws, and the consumer market of China’s economy as understanding the changing relationship between Korea and China and its implications necessitates broader analysis.

This report is the output of a team research project conducted by the KDI Department of Industry and Service Economy in 2015, participated by ten team members and seven outside contributors. Initially, the research was motivated by the presumption that the Chinese economy has become a threat for Korea’s industries. Indeed, the technological gap that Korea has enjoyed has quickly disappeared and in several areas, China currently produces far more sophisticated goods. Naturally, this report puts more weight on the competition relationship than on the macro interdependency of the two economies. As the project progressed, however, another facet of the relationship, i.e. the Chinese economy becoming a risk factor for the Korean economy, presented itself as it became clear that the slowdown in China’s growth in 2015 was larger than expected. Korea’s real export growth in 2015 registered the lowest level with 0.8% since hitting -0.3% in 2009 in the midst of the global financial crisis. Exports to China fell by 5.6% in current dollars, accounting for the majority of the drop.

As this report shows, Korea and China have developed an even more interdependent and mutually beneficial relationship as the two geographically close economies successfully maintained high economic growth. And because they took on similar growth strategies, they have also become fierce competitors in many fields. But, intra-regional trade has grown even faster, revealing that the relationship has been a mutually beneficial one. The current problems in both countries’ industries have been created from within and the risk factor aspect is a direct consequence of interdependency.

The Chinese economy is steadily and methodically marching towards becoming a manufacturing giant, conducting systematic experiments and trial-and-errors, and exploiting its vast domestic market to overcome the disadvantage of being a late-comer. However, it is not free from its own constraints as a big country and is subject to socialist rigidities. The current over-capacity and investment overlaps are consequences of this, as well as a lack of coordination. On the other hand, Korea is faced with spatial limitations of a small domestic market and a lack of time to experiment as advanced countries did in the past. However, as a small country, it has a flexible and agile economy with a high degree of social integration which makes policy manuvers feasible. Therefore, if China’s growth and structural transformation is to become an opportunity, the Korean economy should be able to create an open and flexible system and maintain institutional superiority over a big country. And the society’s ability to resolve conflicts of interest during industrial restructuring and deregulation is the key.

Summary

KDI Policy Forum Inter-Korean Economic Cooperation and Economic Cooperation in Northeast Asia

□ The objective of this study is to present a way South Korea, North Korea, and the surrounding Northeast Asian region can achieve a win-win result through invigoration of regional economic cooperation by inducing participation of North Korea in the process of the Northeast Asian Economic Cooperation.

- North Korea can provide the countries in the region with a chance to make an investment in construction of a new infrastructure and development of resources, and, if participation of North Korea is premised, the connecting link of multilateral cooperation such as the Transcontinental Railroad Connection Project, Pipeline Natural Gas(PNG) Connection Project, and so on, can be completed.

- Accordingly, in order to make progress in the Northeast Asian economic cooperation, the North Korean problem needs to be resolved by arranging a way for North Korea to participate in the Northeast Asian regional cooperation.

□ The most distinguishing feature of North Korea's recent external economic relation is that the trade and foreign capital inflow are insignificant in size, and are almost entirely dependent on China.

- Though this is basically because North Korea has no other alternative to China due to the sanctions imposed on North Korea by the international community resulting from the nuclear issue, even if there is some progress in the nuclear issue, in order to invigorate and diversify overseas economic interchange and cooperation, a financing plan should be arranged first because of enormous fund required for expansion of the export market and construction of the infrastructure in North Korea.

□ Inter-Korean economic cooperation through Northeast Asian economic cooperation can occur in three forms; trade cooperation, monetary/financial cooperation, and multilateral cooperation in the region.

- As to trade cooperation, South Korea may be able to persuade partner country in the FTA to designate special zones of North Korea such as Kaeseong Industrial Complex as Outward Processing Zone and South Korea may attempt to negotiate CEPA with North Korea.
- If special zones of North Korea are designated as Outward Processing Zones of South Korea, North Korea can enjoy various resulting benefits such as expansion of the export market to FTA partner country of South Korea.
- If the South-North CEPA is achieved, investment by Korean and overseas companies in the North Korean region is expected to increase thanks to the improvement in the investment environment, greatly benefiting North Korea.

- As to monetary/financial cooperation, the establishment of A3Fund, a regional joint fund in which Northeast Asian countries participate, and a regional development finance institution like the Northeast Asia Development Corporation can be promoted, and North Korea's participation in the Northeast Asian economic cooperation can be induced by allowing North Korea to utilize these facility to finance an infrastructure project for the Northeast Asian economic cooperation.

- As to multilateral cooperation, the Transcontinental Railroad Connection Project, the South Korea-North Korea-Russia PNG Connection Project, and the South Korea-North Korea- China Joint Development Project in the North Korean-Chinese border areas are representative multilateral cooperation projects in Northeast Asia and they are expected not only to contribute to enhancement of mutual interest of the related countries but also to bring additional benefits such as developing trust and alleviation of tension in the Korean Peninsula.

- Though not only the bilateral cooperation between South Korea and North Korea but also the multilateral cooperation among countries including the two Koreas can be promoted only when the nuclear issue makes a progress and the South-North Korean relation is improved, those issues need to be examined in advance.

Summary

Research Monograph KOR Innovation in National R&D Mechanism: Recommendations for Delivery of the Creative Economy

This study seeks to assess current Korea’s national R&D mechanism, one of the fundamental elements deemed necessary for successful delivery of the creative economy: Park administration’s key agenda. New direction for innovation is explored, too.

As an introduction to the entire study, Chapter 1, assesses Korea’s national R&D mechanism and presents future directions for innovation. Korea’s R&D expenditure is among the largest in the OECD, and its private sector boasts impressive R&D achievements, including patents, in a fairly short time. However, such development has created unintended side effects: ① R&D input imbalance between university and government; ② Lack of concrete results from theses as an R&D output; and ③ Small number of success in technology transfer and commercialization as an R&D output. Based on this diagnosis, Chapter 1 recommends five key agendas for innovation in Korea’s public R&D mechanism: ① increased autonomy; ② broader openness; ③ invigoration of high-risk and high-value studies; ④ demand- oriented innovation; and ⑤ formulation of global talent-based network.

Chapter 2 demonstrates a national strategy to encourage high-risk and high-value studies in Korea—relatively less competent so far—as one of the key directions for innovation in the national R&D mechanism. Chapter 2 addresses three background problems: ① excessive bureaucratic control in top-to-bottom support; ② peer review issues in bottom-to-top support; and ③ research institute’s governance issues in lump sum support, and issues related to tackling and strengthening support for high-risk and high-value studies. Then, it suggests a two-track strategy which consists of a general track operated by “larger support” under the current R&D support system and a special track run by a few specialized universities and research institutes. Taking the US’ Defense Advanced Research Projects Agency (DARPA) as an ideal model, Chapter 2 puts forward three measures to be included in the adoption of a ‘Korean Advanced Research Projects Agency (K-ARPA tentative)’ which could spur new changes in high-risk and high-value studies. First, the K-ARPA should present a new model that works to transform the current public R&D governance from bureaucratic control to a field-rooted network. Second, the K-ARPA should focus on high-risk and high- value studies that could expand the knowledge of basic science so as to solve pending problems in reality and create new opportunities. Given that K-ARPA projects are intended for actual applications, it is necessary to explore measures to connect such projects with government-funded research institute’s project-based system (PBS) and product procurement for innovation (PPI). Third, the K-ARPA should be run similar to a special task force that creates shock effects to a complacent attitude of maintaining the status quo in the innovation ecosystem thereby paving the way for increased activities for high-risk and high-value studies. To that end, it is critical for the agency to secure its own dependence and autonomy from the existing R&D system.

Chapter 3 reviews PPI cases in Europe and assesses its demand- based innovation policy and implications. Nowadays, the EU has increasingly paid close attention to demand-based innovation policy for the following reasons: ① growing dissatisfaction with the efficacy of existing technology’s supply-based policy instruments; ② the need for a new policy package to overcome stagnant growth structure witnessed since the global financial crisis; and ③ efforts to merge R&D investment with innovation system based on a broader social context.

Korea’s R&D spending is among the highest in the world, but its achievements in terms of innovation and productivity is mediocre at best. Such paradox between input and output can be seen as an outcome brought out by the inadequate response towards various economic and social demands and by the increased planning and development of strategy from the supply side of science & technology sector which originates in shift from public R&D to basic research studies, after witnessing the enhanced capacity of private R&D sector since the mid-1980s.

In this context, the fact that European nations have adopted and implemented PPI programs gives us several implications, as PPI is a demand-based innovation policy instrument in a sense that it enables the correction of market and system failures through public procurement function, creates demand to build a leading market or introduce new technology-based products and responds to global agendas such as climate change.

Based on this understanding, Chapter 3 presents three recommendations: ① proper review on the current state of R&D system which focuses on technology supply with mixtures of appropriate policy packages; ② aggressive extension of the PPI, a policy program with huge potential to make a significant impact on demand for technology innovation through appropriate blend of public procurement and innovation policy measures, ③ active utilization of PPI as a means to precipitate reforms in government-funded research institutes.

Chapter 4 analyzes the effects of private R&D support programs with a focus on the relation between SME R&D subsidy and innovation performance. What makes this study stand out from other preceding ones is the fact that it uses the generalized propensity score matching (GPS) technique that measures continuous treatment effect, meaning that it continuously analyzes the relation between changes in subsidy amount and innovation performance in companies. This study also seeks measures to improve R&D subsidy system for SMEs, such as identifying a reasonable level of subsidy based on the estimation of marginal effect of government subsidy. The “Korean Innovation Survey 2010” which covers overall innovation activities in the manufacturing industry from 2007 to 2009 was used for such analysis. Innovation variables used in the analysis are ① the number of patent application, ② proportion of sales of firm’s first product, and ③ proportion of sales of the first new product in the market.

The analysis of the number of patent application shows that R&D subsidy of 110 million won or less comes with a decline in performance, while the range between 110 million won and 530 million won comes with an increase in performance; in other words, the marginal effect of R&D subsidy remains negative in the scope below 110 million won, positive between 110 million won and 530 million won and stagnant or negative beyond 530 million won. The analysis of proportions of firm’s first product and of the first new product in the market reveals a highly similar pattern. The analysis empirically demonstrates that the size of R&D subsidy given to SMEs might determine the magnitude of their innovation performance. What is noteworthy is that extra amount of subsidy does not contribute to a proportional increase in innovation performance. In particular, when the subsidy is relatively small, its marginal effect remains negative, suggesting that it could bring adverse impacts on improvement in innovation performance.

Korea’s R&D subsidy approach for SMEs leans towards allocating a small-sized innovation subsidy to as many firms as possible in order to build infrastructures for R&D investment, to which the analysis in this study finds it inefficient, despite its intention to ease the financial burden of R&D investment. This finding implies that for a broader R&D base, indirect subsidy, such as tax reduction as an incentive for firms’ prior investment, might work better. Not only that, the analysis result—showing that the marginal effect of R&D subsidy does not sustain along with the rise in subsidy, and tends to decrease or be stagnant when the subsidy exceeds a certain level—implies that a highly sophisticated analysis is needed to determine the size of R&D support for SMEs.

Chapter 5 examines the status of universities, breeding ground of research workforce, analyzes characteristics of doctoral courses based on their research activities and draws implications for improving the quality of domestic doctoral courses.

The number of researchers with doctoral degree has increased rapidly from 3,280 in 1991 to 12,243 in 2012 on an annual basis, and the number of universities that produce ten or fewer doctoral graduates has increased particularly fast in recent years. To identify the differences in research activities among universities running doctoral programs, a total of 105 universities that produce a certain number of doctoral graduates are selected as subjects and they are again categorized into three groups for the use in analysis.

Domestic doctoral programs have various, distinctive characteristics, but no systemic information on them have been established yet, not to mention a properly functioning quality control system. Without a mechanism to resolve uncertainties resulting from varying qualities of degree courses in the domestic advanced and doctoral education market, there will be more ‘lemon’ programs, thereby deepening the distrust towards domestic doctoral courses as a whole. As the competition for advanced education in the global market has gotten fiercer, it is indispensable for domestic universities to establish a quality control system for their doctoral courses. Above all, it is necessary to minimize inefficiency resulting from information asymmetry by releasing important information about universities and their academic majors to students and university officials through an information disclosure system for each doctoral course. At the same time, it is important to set up an accreditation system to monitor doctoral courses while strengthening the criteria for new doctoral programs. In the meantime, the government should install a quality control system targeting doctoral courses and simlutaneously carry out policies intended to precipitate restructuring of doctoral courses through course innovation, active industry-university cooperation and quality undergraduate education.

Summary

Research Monograph KOR China’s Regional Economic System and Risk Factors

Recently, the Chinese regional economic system has been pointed out as one of the crucial factors that may contribute to potential economic crisis. Historically, regional severance and competition have been the dominant characteristics of China. In addressing the issue, China has resorted to regional autonomy and competitive spirits to move its economy upward and forward. “Getting Rich First Theory” advocated by Deng Xiaoping was a primary example and also a key determinant that led China to successful transition into a socialistic market economy since the reform and opening-up policy. In stark contrast to the China’s success, deeply rooted structural problems such as overinvestment, excess capacity, market partitioning, large fiscal deficit of regional governments, real estate bubbles in newly developed areas, and numerous other problems characterize the side-effects which are strongly associated with its regional economic system.

In this regard, the regional characteristics of Chinese economy requires in-depth examination in analysing the overall performance and future prospects. In particular, regional endowment conditions, budget constraints, policy objectives of multi-layered structure of local governments, the incentive mechanism between the regional governments and central government merits particular attention. This is due to the fact that strong correlation exists between the so-called chronic problems of Chinese economy; overlapping investment, credit expansion through local governments’ fiscal deficit and loan platform, and high likelihood of real estate bubble bust; and incentive schemes of local governments’ staffs, which include evaluation and compensation and promotion system. A seemingly contradictory phenomenon that China is “good in macro but bad in micro” originates from the lack of understanding of regional economic structure and local governments which form the micro–basis of Chinese economy. Thus, this study focuses on the microstructure of Chinese economy with a special attention to its regional properties, in order to unearth the future direction of China’s macroeconomic performance and its impact on Korean economy. More specifically, it begins with sectoral issues such as private and public finance, industry, regional real estate markets, using the bottom-up method in studying the overall macro-economy and concludes with a review on the likelihood of a systemic crisis and potential paths.

Recently numerous experts have raised deep concerns over the hard-landing of Chinese economy caused by the considerable size of shadow banking which is estimated to account for over 55% of its GDP. In fact, the origin of such explosive growth of shadow banking can be traced back to China-specific regional economy system. After the 2008 global financial crisis, Chinese government adopted a expansionary fiscal policy, introducing a 4 trillion yuan stimulus package, of which large portions were mobilized with local government loan platforms. These financial instruments are referred to as special purpose companies(SPCs) that base their assets on real estates and enterprises owned by local governments. Because the National Budget Act prohibits the issuance of local government bonds, local governments have used its own loan platforms as a tool to finance for regional development projects. Throughout this process, the competition among local government officers to build regional economy has had a profound effect on massive enlargement of local government loan platform facilities.

The commercial banks which provide funds for regional development raise money through wealth management products(WMPs). The WMPs are usually sold to high-yield investors who are not satisfied with low deposit rates. Thus, investors, intermediaries and local governments have reached a consensus to expand credits driven by fiscal expansion to alleviate economic contraction after the 2008 crisis. However, fiscal soundness of local governments has deteriorated and the probability of bubbles in real estate markets have risen.

In a nutshell, a large size of shadow banking represents a crisis in Chinese economy of which the results are derived from central government’s insufficient supervision and local governments’ desirefor growth. Likewise, China's regional economic properties are the starting point in figuring out the potential risk factors in the entire economic system as well as internal operating mechanism. The reason are as follows. First, local governments are rudimentary economic entities that implements activities related to production, investment and credit supply. Second, complex relationship between central and local governments leads to an inconsistent policy implementation, being heavily dependent upon economic and political situations and political leverage of local governments. Third, large regional income disparity across regions may affect final decisions far beyond economic considerations.

In the long-term perspective, the study on China's regional economy is of primary importance in contemplating its economic sustainability. The high economic growth of 10% which has been sustained for over the last thirty years since the reform and opening-up policy will inevitably be curtailed to around 6 to 7 percent soon. The Xi Jinping Administration, as a matter of fact, demonstrated a policy stance that is distinctively different from the earlier leaders, as he puts more emphasis on qualitative aspects such as environment, technology innovation, income distribution, livelihood of the public, etc. away from quantitative growth. This stems from the awareness that the past model focused on quantitative growth is deemed no longer sustainable but may also bring considerable risk. In the transition to a mid-growth era, adjustment in terms of regional economy represents a primary importance. The regional competition which has led high-powered economic growth in China should be overhauled to adapt to the mid-growth era. Regional economic separation which ignited regional competition should be dismantled and replaced by regional integration for economic efficiency and efficacy. The policy scope of central and local governments should be readjusted towards the direction of market principles for local government staffs. As for the increasing incidents of socio-political complaints, local governments should not only build capacities for trouble-shooting but also exert more efforts to raise transparency in policy implementation.

The smooth transition of China to the mid-growth era asks the central government for reforms on incentive mechanism of local governments and better control for their policy distortions. In this sense higher efficiency of local governments and better coordination of roles between central and local governments are decisive factors for economic stability and sustainable growth in China.

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