The Changing Economic Environment in Asia

In the eyes of many observers and analysts, the 1997 ‘Asian Crisis’ has abruptly put an end to a mode and cycle of uninterrupted economic growth in a number of Asian countries,¹ by highlighting the many inherent contradictions characterizing the chosen unsustainable development paths. Others see in the crisis the manifestation of hidden weaknesses that compel these economies to put in motion regulatory mechanisms that will, after a given time for adjustment, secure high growth rates in the future, without fundamentally challenging the chosen mode of development. Although there is today quasi-consensus, among economists and business analysts on the type and nature of these contradictions and weaknesses, the different weights accorded to them explain the two broad diverging views referred to above. We can group these contradictions and weaknesses into two major categories. The first category refers to the so-called ‘structural weaknesses’ of the Asian economies, and encompasses the lack of corporate governance; the laxity of public policy makers; the proliferation of incestuous relationships between corrupted governments, large domestic financial institutions, and large domestic manufacturing conglomerates,² opaque accountancy and legal systems; and nonsustainable business practices accounting for low levels of total factor productivity (TFP).

Developing countries used to be rather hostile to inward Foreign direct investment (FDI); they feared that FDI might lead to uneven global development. This attitude changed radically in the mid-1980s, particularly in Asia (Calvo, Laderman and Reinhart 1996; Markusen and Venables, 1997; Lall, 1998). Since then, host countries’ governments have welcomed increasing flows of inward FDI, essentially in the manufacturing sector. They now consider that FDI may be an ‘industrialization instrument’ less dangerous than international indebtedness (Rodriguèz-Clare, 1996). The most visible characteristic of this change was the surge of FDI from developed countries in Asia until the Asian crisis broke out in the summer of 1997 (Hill and Athukorala, 1998).

The 1997–8 Asian financial crisis indicates the growing interdependence existing between EU and Asian economies. Excessive reliance upon international capital flows is currently seen as one of the main explanatory factors of this turmoil, combined with an inappropriate allocation of domestic resources and the many distortions induced by market-unfriendly policies. The rapid depreciation of most Asian currencies against both the US dollar and major European currencies may enhance the comparative advantage of these countries. However, the collapse of domestic demand in the ASEAN countries has induced a cautious attitude on the part of foreign investors, who had to postpone or cancel several projects. In addition, they had to reconsider or even to change drastically their strategy aimed at implementing — within their business group — an international division of labor, and therefore international trade flows between their subsidiaries.

Faced with industrial maturity since the mid-1980s, Japan has entered a phase in which manufacturing industry no longer attracts talented young people, where small and medium-size (SMEs) companies are losing their technological basis, and where the Japanese regions, experiencing a depopulation effect, are forced to compete with other Asian countries in order to maintain a certain level of manufacturing investment.

The Asian crisis remains very much a topical issue, in spite of its occurrence more than three years ago. It should still be viewed as a thought-provoking theme — even more so now as it is recognized as much more than a currency crisis, with far-reaching effects well beyond Asia itself. It is indeed a global crisis for societies, national identities and industrial activities, as well as for institutions and for the credibility of governments. Three years after the outbreak of the financial crisis, with economic recovery in sight, some old questions remain unresolved and new issues are emerging.

Since the 1980s, in the wake of the Chinese leaders’ open door policy, investment in China by foreign manufacturing companies proliferated. To date, however, much research attention has been focussed on high-profile manufacturers from Western countries in major Chinese cities and the plethora of investors from Hong Kong and Taiwan in China’s south-eastern seaboard. In contrast, the focus in this chapter is on companies from a late industrializer, the Republic of Korea, having undergone a severe economic crisis, and in the decades of the 1960s and 1970s known as a low-wage economy. Undoubtedly, one of the current motivations for Korean industries in China has been the presence of cheap labor relative to that in other Asean countries. Nevertheless it will be argued in this chapter that such Korean investment in China involves wider issues and incentives, without consideration of which it is impossible for companies to develop long-term strategies crucial for profitability stemming from the successful penetration of Chinese and foreign markets.

In 1979, the Chinese government published the first law authorizing foreign direct investment (FDI) in the form of equity joint ventures.¹ Since then, other forms of foreign investment have been authorized, notably cooperative joint ventures and wholly owned foreign enterprises. The three forms of enterprises, known in China as foreign invested enterprises (FIEs) to distinguish them from their local counterparts, are widely adopted by Western companies.

This chapter addresses the impact of the 1997 Asian financial crisis on the domestic business conglomerates, by questioning their future in a rapidly changing environment. It enlarges the scope of the majority of academic work, based on the financial rationale, by considering the key role of these corporate groups in the crisis: South Korea is taken as a case study.

One consequence of the Asian crisis has been the adoption by potential investors of a whole range of new strategic approaches to the issue of foreign direct investment (FDI) in that part of the world. Investors’ attitudes have varied according to the way in which they have interpreted the changes that have occurred as a result of the region’s recent economic crisis. The economic typhoon in the Far East caused a number of major transformations. The most urgent of these were the structural reforms and the de-regulation measures that the International Monetary Fund (IMF) strongly recommended to the three main victims of the crisis, South Korea, Thailand, and Indonesia.

With the spread of the Asian financial crisis, Korea has been hit by its worst economic depression since 1970. Industrial production declined, plant operation rates nose-dived, and unemployment soared to 1.5 million at the end of May 1998. Facility investment declined 8.7 percent in 1997 and 38.5 percent in 1998. Such investment had been increasing before the crisis at an average annual rate of over 10 percent for some years. Korean GDP for the first time decreased at an annual rate of 5.5 percent in 1998. One of the causes of the slump was a loss of confidence by foreign investors. The Korean economy has since recovered rapidly. According to IMF sources, the growth in real GDP is expected to have reached 9 percent in 1999 (IMF, 1999). Industrial production increased by 22.5 percent in 1999; this is the highest rate of increase recorded since 1980.

The Japanese model of human resources management (HRM) has gone through a serious crisis since the 1990s. Faced with a comprehensive industrial reorganization program and the vanished possibilities of sustained economic growth, the viability of the Japanese model has suddenly been thrown into question. The model, as it is generally understood, is based primarily on the assumption of stable employment relations.

Thailand reached a crisis point in 1997, after a decade of vigorous growth. In various analyses of the situation, the emphasis is generally placed on economic factors and their financial and monetary dimensions, without devoting much attention to the structural roots of the problem. Even before the alarm bells started ringing, a number of structural effects relating to the country’s growth model could be felt, especially in the manufacturing sector, but these went largely unheeded in political and economic circles (Boisseau and Simon, 1998; Raillon, 1998; Schwab and Nguyen, 1998).

It is generally accepted that China will be a great competitor to the Western industrialized countries in the twenty-first century. Is this a reasonable opinion? Is it true that China’s size and growth rate are important in measuring its potential as a competitor? Two questions should be considered. First, is the growth rate of the Chinese economy based on productivity gains? If economic growth is sustained only by an increase in inputs, it will be short-lived (Krugman, 1994). Second, is the high growth rate being followed by a rationalization of the Chinese industrial structure?

The role of international trade in the process of economic development has long interested economists.¹ Numerous empirical studies have been conducted to determine this relationship, but little has been said about the exact contribution of international trade to economic growth in the case of the People’s Republic of China (PRC).