The Role of the Government

The restructuring of the financial sector

Then, the government rescued better managed banks by turning non-performing loans into equity, resulting in drastic increase in the government ownership of the commercials banks and consequently giving the government more power in the financial sector. Once banking institutions stand on their own feet, it is the government’s plan to privatize its ownership, so that commercial banks can operate on the basis of market principles in allocating financial resources.

The anticipated purchase of the two large commercial banks by foreigners and increasing foreign equity participation in other commercial banks are expected to introduce more modern market-oriented banking techniques and transparency in operations, resulting in rational allocation of financial resources.

The restructuring of chaebols

These chaebol firms are now facing two challenges: (1) The government’s mandate requirements to reduce debt/equity ratio below 200 percent and to focus on a few core businesses and (2) a major reform in organization and management in response to changing market and technology environment. First, in the wake of the economic crisis, the government set clear goals and forced chaebols to down-scope businesses so as for them to be able to strengthen their competitiveness in a few core businesses. The government, as a major shareholder of banking institutions, disciplines these chaebols by withdrawing or renewing credits to these debt-ridden firms. To meet the mandate requirement to reduce the debt-equity ratio for core businesses, chaebol firms had nothing but sell off many of their unprofitable businesses to foreign firms. Hyundai, for instance, announced to focus on five core businesses -- automobiles, electronics, construction, heavy industry, and financial services – reducing its number of subsidiaries from present 62 to 26 by the end of 1999. Samsung decided to concentrate on four core businesses – electronics, finance, trade, and services and to reduce its number of affiliated companies from 64 to 40 by the end of 1999. LG’s main business segments will be chemicals/energy, electronics/telecommunications, services, and finances. Through the sale and disposition of unprofitable businesses, the number of affiliates will be reduced to 32 by 2000. Daewoo might have to give up most of its businesses just to concentrate on automobiles. Other smaller chaebols are also in the process of a major restructuring of their businesses, signaling a major structural change in Korea’s business system.

Second, while the chaebols have been crucially important in Korea’s development, they face some serious problems in their organizational and managerial style in further raising their innovation capabilities. The top-down management style was fostered by the need for top-level relationships with key government leaders. The three decades of military government fostered a management style that closely resembled the military bureaucracy, in which virtually all Korean males served. Unlike highly formalized civilian bureaucracies, Korean firms were adaptable to changes once a decision was made at the top by the “commanding general.” This style was quite compatible with the imitative “learning by doing” of the early years of industrialization, when targets were clear and the expenditure of effort and other resources was the key to success. But these dynamics can be a major hindrance to raising the innovative capabilities of Korean firms through R&D.

Many chaebols recognized the imperative of major changes to transform themselves into innovation-oriented organizations. This requires more decentralized, self-contained, strategic business units that can respond quickly to changing markets and technologies; an organizational climate that nurtures creative individuals and effective teamwork; effective lateral communication and coordination across functions; and bottom-up communications to identify and respond quickly to market opportunities and threats. There have been a lot of rhetoric but little action.

The recent economic crisis has, however, forced chaebols to reform their organizations and management to be compatible with new needs. It will, however, take some time before some results can be seen. The chaebols find that while the formal organizational structure and management system can be changed overnight, but changing the behavior of managers and employees to be compatible with the new system is more difficult and time consuming.

Despite many problems, the chaebols will remain assets rather than liabilities for Korea even today, and will do so for the foreseeable future. As possessors of the needed technical and financial resources, they will continue to play the major role in strengthening Korea’s technological capability and spearheading the globalization of Korean business. As they evolve towards more focused, decentralized, flexible, and agile and as their links with SMEs develop and are strengthened, their changing strategies and growing capabilities will significantly change Korea’s business system.

An important arena where government has made a major mistake in its development program is in education. In the 1950s and 1960s, Korea over-invested in education relative to national needs. As a comparative study by Harbison and Myers (1964) found in the late 1950s, Korea’s educational achievement (in terms of school enrolment at all levels) stood close to the level expected of a country with three times its per capita GNP. This built a strong skill base for Korea’s imitation drive in the 1960s and 1970s. But in the last two decades the government has under-invested in the quality of education, particularly at the university level, resulting in a short supply of highly trained human resources in Korea’s innovation drive from the mid-1980s. The scarcity of research-intensive universities also constrained the emergence of technology-based small firms.

The importance of reorienting a dozen of leading universities from teaching- to research-oriented institutions have long been recognized, but the government has not been effective in mobilizing resources for major investment in education. The recent economic crisis, however, prompted the government to formulate a major reform program and earmarked W. 1.6 trillion (about $1.4 billion) to invest over seven years in order to transform some of leading universities into excellent research centers. It is yet premature to estimate the outcome of the program, but once implemented properly, the program is expected to significantly upgrade the quality of scientists and engineers Korean institutions will produce in the future.

Another arena where technology infrastructure faces a major challenge is government research institutes (GRIs). KIST and its spin-off GRIs spent a large proportion of the public R&D expenditures throughout the decades. GRIs played a significant role in helping firms acquire foreign technology in the early years of industrialization, and in informally transferring and diffusing technology throughout the economy through reverse-engineering of foreign technologies. But the role of GRIs has been weakened vis-a-vis the chaebols’ corporate R&D centers for two reasons. First, the government’s direct control of GRIs has resulted in rigid bureaucracy in these institutions, stifling initiatives and creativity of research managers and researchers. Second, GRIs have had difficulties in retaining competent researchers, who either hop to academic institutions for prestige or to corporate R&D laboratories for better economic incentives.

The government has formulated plans to introduce a major restructuring of GRIs several times in the past, but has never implemented its plans due to strong resistance of the stakeholders. The recent economic crisis enabled the government to introduce a major restructuring of GRIs. As part of public sector reform, the government introduced three research councils, a pattern after German and British systems, and reorganized GRIs under the jurisdiction of these councils by eliminating the direct control of GRIs by government ministries. It might take sometime before the new structure would function properly, but the restructuring is expected to result in increased administrative freedom and major reorientation of GRIs to meet new missions.