South Korea’s ascent to achieving exclusive Organisation for Economic Co-operation and Development (OECD) status in 1996 encapsulates both its competitive strengths as well as its main weakness. The economic rise in this relatively small and resource-poor country has largely been down to the exports of its large industrial conglomerates, commonly referred to in the country as 'chaebols'.

With 14 South Korean chaebols ranking among the Fortune's Global 500, it was fitting that their role in powering South Korea’s economy was acknowledged by the deputy minister for trade and investment, Jinhyun Han, in his opening speech at South Korea’s sixth Foreign Investment Week conference in the country's capital, Seoul. “Throughout Korea’s economic development, investing corporations were the driving force behind Korea’s superb performance,” he said.

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Ranked as the world’s eighth largest exporter by the OECD, fDi Markets greenfield investment database shows that the outward investments made by South Korean firms are a crucial component in the country's economy. Between January 2011 and January 2012, 171 outward FDI projects were funded by 63 companies in South Korea, yet in the same period, inward FDI into the country was much lower, with 116 projects initiated by 102 companies. Furthermore, between 2003 and early 2012, fDi Markets recorded 963 inward FDI projects to South Korea, with an average project size of $85m, compared to 1516 outward FDI projects with an average project size of $137m.

Soft underbelly

The sharp slowdown of GDP growth in South Korea from 6.2% in 2010 to 3.6% in 2011, according to figures from research firm Roubini Global Economics, significantly exposed the soft underbelly that is the country’s main weakness. Forecasting decelerated GDP growth of 2.7% in 2012, primarily due to weaker growth in China and the eurozone, which account for 25% and 8% of South Korean exports, respectively, Roubini Global Economics' figures highlight South Korea’s dependence on external markets.

While keen to expound the country’s export-led success that earned it the name 'miracle on the Han river', South Korean government officials have also been frank in maintaining that South Korea would need something of a miracle to revamp its economic growth in the next few years.

“Global economic instability has continued in recent years – in the US and the eurozone – and economic experts are saying the world economy could become increasingly uncertain in the future,” says Sukwoo Hong, South Korea's minister of knowledge economy. “Yet let me take this opportunity to say opportunity comes in the guise of a crisis.”

Part of the solution, foreign investors were assured, still lies in FDI, and the South Korean government has revealed its intention to redirect both domestic and foreign investors’ capital back into South Korea.

Trade-offs

Foreign trade agreements (FTAs) have become key pillars in the South Korean government’s strategy of attracting and retaining inward FDI. “We are trying to de-regulate our economy by introducing FTAs,” Lee Chan Woo, deputy director-general for the economic policy bureau in the Ministry of Strategy and Finance, told fDi Magazine in an interview.

“For example, with the EU countries, we would like to get some technology or expertise from their experience in the financial industry. The US, for example, has high-tech and telecommunications sectors and we want to transfer this know-how to our economy.” 

To be sure, FTAs are currently all the rage in South Korea, and according to estimates from South Korea’s Ministry of Foreign Affairs and Trade, the country already has FTAs with two-thirds of the world markets. “Korea is an extremely open economy,” says Hank Ahn, the commissioner of South Korea's national investment promotion agency Invest Korea.

“Korea’s trade value is escalating, as, for example, the current EU-Korea FTA already offers investors several opportunities. The impending implementation of US-Korea FTA will further increase the value of investments made into Korea.”

In South Korea’s economic circles, FTAs, particularly with large economic blocs, are perceived as a means to boost inward FDI flows as they enable investors based in South Korea to access signatories’ markets at a lower cost, and they also offer opportunities to transfer knowledge and technology from developed markets into South Korea.

Early success

Government officials have been keen to stress that this strategy is already reaping rewards. “Though the global economy may be unstable, foreign investors continue to have confidence in the reliability of the Korean economy,” says Mr Hong. “FDI into Korea amounted to $7.5bn by the third quarter of 2011. This is 4.3% more than it was at this time in 2010.”

In November 2011, UK-based Porvair, a specialist filtration and environmental technology group, announced that its microfiltration division had signed an agreement with South Korean steelmaker Posco E&C. Serving as a clear example of substantial revenues accrued by a foreign company in exchange for technology transfer to South Korea, Porvair will supply char filtration equipment to Posco's coal and natural gas project in Gwangyang.

Furthermore, in April 2011 fDi Markets recorded that US-based Quality Systems of Rochester (QSR), a designer and fabricator of custom-automated manufacturing systems, signed a contract worth $2m with an unidentified South Korean automotive components maker. QSR is expected to outsource components for Kia and Hyundai cars to factories in South Korea.

“FTAs can induce FDI,” says Kim Young Moo, director-general at the free-trade agreement policy bureau in the Ministry of Foreign Affairs and Trade. “One reason is that most FTAs have an investment chapter and we have a scheme written into the agreement that protects foreign investors, thus the FTAs actually safeguard their investments. This gives them more reason to invest in a country that has several FTA partners, rather than in countries without any FTAs.

"The second reason is the FTA places the foreign investment within a legal framework, giving the foreign investors several protections that inspire investor confidence. They can sue the government if they experience damages in the countries that they have invested into, and this is a huge factor which makes FTAs induce FDI, as foreign investors feel they remain protected, according to international standards, because of the FTA.”

Domestic value

Bent on attracting inward FDI to the country, the South Korean government’s ongoing engagement in institutional and legal reforms means that the domestic market also continues to offer investors lucrative opportunities. “Korea’s business environment is improving because the government continues to pursue regulatory reforms,” says Mr Han. “We are working tirelessly to make improvements to the business and living conditions of foreign investors based in Korea.”

Positive growth in private consumption and investment, and a continued current account surplus with a resilient export performance, means that South Korea’s consumer market offers first-rate business opportunities to foreign investors.

“Everyone is very cautious at the moment because in Europe you are never sure,” says Richard Hill, CEO of Standard Chartered Korea. “Nevertheless, the economic fundamentals of the Korean economy are strong. Standard Chartered is very committed to Korea and we are the largest foreign investor in the country. We have a global market capitalisation of $60bn. We have $4.4bn of that capital in the Korean market and we make $400m profit a year out of Korea.”

Among the key factors that has influenced FDI inflows into South Korea has been the potential for growth in the domestic market. According to fDi Markets data, 64% of foreign investors in South Korea in 2011 stated this as a motivation for making a greenfield investment in the county.

The government remains aware that while its reliance on foreign capital can expose it to significant risks, if harnessed strategically through shrewd economic management, it can be of huge benefit to the country and help boost GDP growth.