• Thursday, March 28, 2024
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Lessons from industrial development in South Korea

South Korea

It’s no secret that Nigeria has recently been tilting towards more protectionist policies. The logic is straight from the import substitution playbook and typically goes like this: we import too much of product x when we could be producing it locally. We don’t produce it locally because foreign competition is too fierce. If we protected our domestic firms from foreign competition by placing some prohibitive tariffs on imports, then eventually they would grow and become strong enough to compete. That’s how other countries did it. One of the countries often cited as following this strategy is South Korea. But is this the real South Korean story.

Their story of industrial development starts mostly after world war two. Free from Japanese colonial rule two regimes took over the Korean peninsula. The Russian influenced regime took over in the north in what is now called North Korea while a United States influenced regime took over in the south. Unsurprisingly the north went the communist route in terms of policy while the south went more capitalist. The economic fall-out from the war was of course still significant and the south Korean regime moved to boost economic growth by supporting local industry. They selected firms in targeted industry and gave them special benefits like access to cheaper foreign exchange, loans at significantly lower interest rates, and set up tariffs on imported manufacturing goods. In short, they implemented policies that would fit the classic import substitution theories.

What was the outcome? Economic stagnation. Industries remained inefficient and rent seeking by connected businesses looking for cheap profits by having their foreign competitors blocked was the norm. The stagnation in living standards would eventually lead to the collapse of the regime with the military taking over in 1961 led by Park Chung Hee.

They had of course learned from the mistakes of the previous decades. They abandoned the import substitution policies and did a complete 180 towards export promotion. Every major policy was geared towards answering the question “Can we export it?” Low interest loans are now directed towards exporting firms with export performance the main criteria. Free imports for exporters was also implemented as well as rumored threats of jail time for leaders of firms that did not meet export targets. The result was that productivity growth accelerated and per capita incomes rose with it. In 1962 South Korea exported only $500m worth of goods and services. By 1972 this had risen to $2.8bn and by 1988 it was over $50bn and by 2000 over $150bn per year.

But the export promotion story was not all of it. Prior to the 1960s there had been a massive education drive with the outcome being that South Korea became a source of cheap but highly skilled labour. In 1945 they had a literacy rate of 22 percent. By 1970 it was over 87 percent and by the late 1980s it was over 93 percent. By the mid 1989s the government was spending 4.5 percent of GDP or over 25 percent of its budget on education. Then there was the favorable financial sector which was incentivized to perform it’s intermediary duty by mobilizing savings to lend out. In 1960 national savings were as low as  two percent until financial reforms which enabled banks offer interest in deposits as high as  20 percent. By 1970 the savings rate had jumped to 10 percent increasing further to 17 percent by 1975 and 28 percent by 1979.

All this brings us back to the question of protectionism. Did South Korea get to industrial development by simply protecting their domestic industry from foreign competition? The answer is obviously no and anyone who says otherwise should re-read the history books. Not that they did not have periods of protectionism but that was mostly a failure and they had to change direction before they started to see growth in productivity and industry. And of course they did lots of other things including massive human capital development and market friendly financial reforms amongst others.

 

I know some will say “well they started from protectionism so let’s start from there”. But why repeat the mistakes of others? The point of learning is to avoid others’ mistakes while learning the successful parts. I wish we would copy South Korea’s human capital investment and export promotion policies instead.

 

Nonso Obikili

Dr. Nonso Obikili is chief economist at BusinessDay