A theory of product selection (a model of a NIC)

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A Thesis Submitted for the Degree of PhD at the University of Warwick

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A Theory _{of Product} Selection

(A Model _{of a NIC)}

by

I1 Houng Lee

Thesis _submitted for _the degree _{of Ph. D in}

Warwick _University

Department _{of Economics}

University _{of Warwick}

Acknowledgement

I would like to thank

my parents for their love and sacrifices on my behave during

the last few _years, for their financial _{support as well as}

their _{constant encouragements} through _{prayer, who} have

overstepped afar the duties of parents

my supervisors, Frof. Marcus Hill er and Dr. Norman Ireland,

who have not spared their efforts and time for me with their

mastery in their respective fields and great intellectual

abili ties, whom I have come to admire and respect deeply for

their distinguished _{academic qualities as well as} their

gentle and kind personali ties.

I would like _{to extend my gra ti tudes to}

Dr. N. Barr (LSE), Prof. J. Richmond (Essex) _who have

introduced _me to this _{subject and} Dr N. Schofield

(Washington University) for _{showing me the} boundlessness _of

mathematical economics

the department _of Economics, Warwick University, for its

financial _support, Prof, _E. Wallis _{and Dr.} F. Stoneman _who

were always ready to help, _and to its _members of staff, for

their _{comments and helpful suggestions}

my sister and her husband, who have provided _{me and my wife}

many memorable vacations in the U. S.

bliss H. Bateson, _{for her moral support and motherly} enouragernen ts.

Finally, but _not least, I _would like _{to thank my wife,} Tee

Yeon, _{who has} been _standing behind _{me with a gentle smile}

Contents

Introduction

1 The Objectives 1

2 Korea _{as a Newly} Industrializing Country 5

2.1 Real GDP Growth 6

2.2 Debt Problem 9

2.3 Unemployment 15

2.4 Balance _of Payment 21

3 The Korean Economy: _{A Survey 24}

3.1 Macroeconomic Aspects 24

3.1.1 The Five Economic Development Plans 27

3.1.2 Export-led _Growth 32

3.2 Microeconomic Aspects 35

3.2.1 The Textile Industry 36

3.2.2 The Electronic Industry 37

3.3 _{The Financial Sector 40}

3.3.1 Deregulation _{in the} Financial Market 41

3.3.2 Two Sources _of Inefficiencies 45

4 Conclusion 49

Asymmetric

Duopoly

Competition

_{and Product}

Selection

5 Strategy _{and Competition} 51

5.1 Consistent Conjectures 54

5.2 Choice _of Strategic Variables 59

5.3 _{R&D and Market} Structure 70

5.4 Modelling the Duopoly _"76

6 An Asymmetric Duopoly Model 80

6.1 The Consumers 81

6.2 The Demand Function 85

6.3 Two Stage Game 87

6.4 Conclusion 88

7 The Quantity-Setting Model 89

7.1 The Second Stage Game 90

7.1.1 The Demand Function 90

7.1.2 The Price Level 92

7.1.3 The Utility Levels 94

7.2 The First Stage Game 101

7.2.1 The Reaction Function 102

7.2.2 Limiting Bounds _{on a} 103

7.2'. 3 Positive Cost _of Innovation 105

7.3 A Numerical Example 112

7.4 Comparative Statics 113

7.4.1 An Increase in _the Cost _of Production 115

7.4.2 An Increase in _the Cost _of Innovation 118

7.5 Conclusion 120

8

The Price-Setting

Model

122

8.1 The Second Stage Game 122

8.1.1 The Demand Function 123.

8.1.2 The Nash Equilibrium _of Stage Two Game' 125

8.2 Utility Levels 127

8.3 A Numerical Example 132

8.4 The First Stage Game 133

8.5 The First Stage Game Nash Equilibrium 136

8.5.1 Positive Cost _of Innovation 137

8.5.2 Upper Limits _{on Investment} into R&D 142

8.6 Comparative Static Analysis 143

8.6.1 An increase in the Cost _{of Production} 143

8.6.2 An increase in the Cost _of Innovation 145

8.7 Cournot Vs Bertrand Equilibrium 147

8.7.1 The Price _{and the} Quality Level 147

8.7.2 The Utility Level 148

9

Consistent

Conjectures

150

9.1 Uncertainty _{and Nash Equilibria} 151

9.2 Rationality _{and Nash Equilibria} 154

9.2.1 Definition _of Consistent Conjectures 156

9.2.2 Parameterization _{and Consistent} Conjectures

158

9.2.3 Dynamics _{and Consistent} Conjectures 159

9.2.4 Infinite Regress _of Expectation 160

9.3 Perry/Bresnahan's Consistent Conjectures Equilibrium

161

9.4 pournot Equilibrium _{as the} Consistent Conjectures

Equilibrium 167

9.5 Conclusion 169

10 Competition for Market Leadership 171

10.1 First Stage _{Game given} Cournot _conjectures in _the

Marketing Stage 173

10.1.1 The Choice between _{staying a leader and}

becoming _{a follower} 174

10.1.2 A Numerical Example 180

10.2 Folk Theorem _{and the} Incumbent Firm 183

10.2.1 The Folk Theorem 184

10.2.2 Forced Leadership 185

10.2.3 A Credible Threat 188

10.3 First Stage _{Game given} Bertrand Conjectures in _the

Marketing Stage 189

10.4 Production Cost Differences _{and Market}

Participation _{given ei > c2 193}

10.4.1 _{When ai > az} 193

10.4.2 _{When al < a2} 195

10.5 Conclusion 198

11. Licencing _{vs Independent} Innovation 201

11.1 Licencing _{vs Independent} Innovation 204

11.2 Licencing Fee per Unit Sold 206

11.2.1 _{a3 > D/(2A+D)} 211

11.2.2 _{a3 < D/(2A+D)} 212

11.3 Licencing Fee as a Lump Sum Cost 213

11.4 Licencing Fee charged _{on Quality} Difference

11.5 Licencing Fee and Leap Frogging 220

11.6. Conclusion 224

12 Optimal Timing _of Innovation 226

12.1 The Speed _of Innovation Development 227

12.2 Single-Period Equilibrium 229

12.3 Level _of Quality 236

12.4 Level _{of Profit} 238

12.5 An increase in the Cost _{of Production} 242

12.6 Multi-Period Competition 245

12.7 Conclusion 248

13 Conclusion

250

Footnotes

Appendices

Lists

_{of Tables}

Chapter 2

Table 2-1 Real GDP Growth 7

Table 2-2 International Multipliers 8

Table

2-3

Gross Capital

Formation

10

Table

2-4

Savings

_{and Investment}

11

Table 2-5 Indicators _{of external} debt, _nonoil

developing _countries 73-82 13

Table 2-6 Balance _of Trade 14

Table 2-7 Total Debt 73-82 16

Table 2-8 Impact _{of exogenous shocks on external} debt

of nonoil developing countries 17

Table 2-9 Unemployment Rates 18

Table 2-10 Major Economic Indicators 20

Chapter 3

Table 3-1 Basic Economic Data 25

Table 3-2 Annual Foreign Investment 26

Table 3-3 The Five Economic Development Plans 28

Table 3-4 Korean Companies _ranked in Fortune's largest

500 non-US companies 31

Table 3-5 Technology Development's Contribution to

Economic Growth 34

Table 3-6 Electronics Export by Product Group _and

Company Classifications 39

Table 3-7 Interest Rates _{on Various} Loans 42

Table 3-8 Types _of Shareholders 46

List

_{of Figures}

Chapter 6

Figure 6-1

Chapter 7

Figure 7-1

Figure 7-2

Figure 7-3

Figure 7-4

Figure 7-5

Figure 7-6

Figure 7-7

Figure 7-8

Figure 7-9

Figure 7-10

Chapter 8

Figure 8-1

Figure 8-2

Figure 8-3

Figure 8-4

Figure 8-5

Figure 8-6

Chapter 9

Figure 9-1

Figure 9-2

Figure 9-3

Figure 9-4

Chapter 10

Figure 10-1

Consumer Indifference Curves _{as Functions of}

their Income 84

Cournot-Nash Equilibria _{under various values}

of Qualities 93

Equilibrium _{values and Profit} Levels for

different Quality _gaps 96

Cournot-Nash Equilibria _{and Utility}

Functions 98

Utility Levels _{under various values of}

Quality Levels 100

Reaction Functions _{with upper and Lower}

Bounds _{and zero cost of} innovation 104

Reaction Function _{of Firm 1 with} Positive

Cost _of Innovation 108

Reaction Function _{of Firm 2 with} Positive

Cost _of Innovation 110

Reaction Functions derived from _{a Numerical}

Example 114

Two Possible Cournot-Nash Equilibria _under

each a different values of an Exogenous

variables 116

The Effect _{of an increase} in _the Cost _of

Innovation by Firm 2 119

Bertrand-Nash Equilibria _{under various}

Values _of Quality Levels 126

Utility Levels _under Bertrand _competition

for _various Levels _{of Quality} 128

Reaction Functions _under Bertrand

competition and zero Cost of Innovation 135

Reaction Functions _{with upper and lower}

Bounds _{on Quality} Levels _{with zero} Cost _of

Innovation 138

Reaction Functions _with Positive Cost _of

Innovation 139

The Effect _{on Equilibrium as Cost of}

Innovation increases for _each

Level _{of Quality} 146

Nash Equilibria _under Uncertainty _{of Firms'}

Strategic Behaviour 153

Nash Equilibria _under Uncertainty _of

conjectures 155

Conjectures _{under various competition for}

each given values of p 164

Loci _of Consistent Conjectures _Nash

Equilibrium 166

Reaction Function _of Firm _{1 and Firm} 2

before _{and after} the _changes in _the Market

Figure

10-2

Simulation

Result.

_showing

Reaction

Functions

of both

Firms

under changes

of Market

Leadership

182

Figure 10-3 Credible _{threats and Nash Equilibrium}

Strategy 187

Figure 10-4 Reaction Functions _under Bertrand

Conjectures in _the Marketing Stage before

and after changes in the Market Leadership

192

Figure 10-5 Possible _{values of Production} Cost _of Firm ₁

given cl > cz 196

Chapter 11

Figure 11-1 _{Nash equilibria under} independent

development 205

Figure 11-2 Reaction Function _of firm _{1 given} licence

fee _{received per unit sold} 208

Figure 11-3 _{The Nash equilibrium given a fixed} licence

fee _{paid per unit sold} 210

Figure 11-4 Reaction function _of firm _{1 given a licence}

fee _{paid as a function of quality difference}

216

Figure 11-5 Loci _{of Nash equilibria} 218

Figure 11-6 Paying licence fee _or leap frogging 222

Chapter 12

Figure 12-1 Speed _of Innovation _{vs Expenditure} 228

Figure 12-2 Efficiencies in _{R&D and Nash Equilibria} in

Optimal Timing 235

Figure 12-3 Profit Contours _{of Firm} 1 240

Figure 12-4 Zero Profit Contours _of Firm _{1 given} IC1 241

Abstract

The objective of this work is to theoretically evaluate an important

aspect of a Newly Industrializing Country (NICs): Korea. Namely, the

behaviour _{of firms} in Korea competing with firms in an industrialized

country after all Government intervention _{of the former is withdrawn.}

This aspect is considered in the main part while a descriptive

introductory _part introduces _{the Korean economy as a NIC.}

We construct a simple asymmetric duopoly model where firms conjectures

play an important role in deriving the Perfect Equilibrium for a two

stage game. Different costs of production and first mover advantage

form the basis of the asymmetry. We find _{that under Cournot}

conjectures assumption for the marketing stage and certain cost

conditions, it is profitable for the incumbent firm to stay a leader

and the follower to remain a follower. For some cost conditions and a

credible threat at the disposal of the follower, the incumbent firm

may be forced to stay a leader even though it is more profitable to

became a follower.

We examine possible licensing rules the leader may propose to the

follower. _{The dominant strategy, we find,} is a licence _{fee that is a}

function _{of the quality} difference _{between the top quality of the}

market leader and the level of quality it is selling to the follower.

There will be a cost to the leader in terms of a lower licence fee to

prevent possible leap forgging. Once we allow for free copying, we

find _that the follower _{will copy closely the new product of the}

leadership. _{Under Bertrand conjectures assumption, we find that}

unless the firm with higher production cost remains the leader

offering a higher quality product, it will be driven out of the

1

1.

The Objectives

The basic _{objective of} this _work is to develop _{a theoretical}

model to analyse aspects of industrial economics which are

not only of close relevance to the characteristics of NICs

but _{also very stimulating} topics in themselves _{as regarding}

present and future strategic choices as well as economic

theory. They _{are quality competition and market structure}

between firms in _{a newly} industrializing _{country and a}

industrialized _country.

Insofar

_{as its}

_relevance

_{to the characteristics}

_{of NICs are}

concerned, the analysis will address a particular aspect of

problems a country _{may encounter} at its maturing stage. We

shall take Korea as a country representative of NICs. The

problems will evolve around the following question:

What is _{the optimal strategy} for _a firm in NICs _when

competing against firms in developed countries once all

restrictions in trade has been abolished ?

Industries in Korea have _come into _{existence through}

extensive planning, financing and partial administration by

the Government throughout the last three decades. The

purpose of this quasi-laissez-faire approach was to promote

an export led growth that would _pull the _{economy out} from _an

2

industrialized _nation. Initially, investments _{were focused}

on textile industries since then required least _{skill and}

funds for _{take off.} Then _gradually, investments _were

diversified into _{semi-skilled manufacturing industries.}

During the _second half _{of the} 70s, heavy _{manufacturing}

industries _were born leading finally _{to the electronics}

industries towards the _{end of} the 70s. At _present, Korea

has _{reached a stage where} it is _{now losing} its _comparative

advantages, e. g., low wage rate, large number of semi-

skilled workers and competitive exchange rate, to its

neighbouring countries _which include the _{potentially giant}

economy of China. Had it _not been for the few large

conglomerates in Korea _{which started} to invest _massively in

the _electronics industries _{a decade ago, the situation} in

which Korea _might have found itself today _would have been _a

very gloomy _one. In _addition to the loss _{of comparative}

advantages, its _{recent success} in _visible trade has meant

that the _argument for "Infant Industry", _{which served as a}

justification for high tariffs _and import barriers became

inappropriate _{and such protectionism} has had to be

abolished, at least gradually. Therefore, faced with the

prospect of losing ground in the areas where economic growth

has _so far been _{enjoyed and} having to _{compete without any}

shelters, Korean firms now have to engage in direct

competition with firms in developed countries. In this

competition, Korean firms still lag behind in terms _of

technology _{and know how.} The _question' is _{whether a Korean}

firm in _{this situation should behave as a follower in}

markets of advanced technology or attempt to _overtake the

3

The electronics firms in Korea have been so far enjoying the

fruit _of being _a follower in _{the world of electronics}

industry. This _{was mainly} inevitable _as technology _was

lagging too _{much behind} to _{engage*in quality competition and}

new product innovation. Nevertheless, the Korean

electronics section has been able to take over 3% of the

world electronics market and about one tenth that of Japan

by producing colour TVs (7 million sets), VCRs (3.75 million

sets) and PCs in 1988. On the other hand, active R&D

projects are underway in Anyang Research establishments

aiming at 16 mega bit d-ram, challenging the leaders of this

market. This is a significant achievement for an economy

that _only two _{and a half} decades _{ago was} just _able to

produce a simple radio.

We _shall be _{concerned with one particular aspect of}

competition: investment into R&D and quality competition.

Under _{an asymmetric} duopoly, i. e., _{a market structure}

consisting only of two firms, we shall examine the optimal

strategy with respect to product (quality) selection under

various conjectures and competition for market leadership.

It is _{an asymmetric} duopoly firstly because firms in Korea

have dual _{objectives; profit and sales maximization made}

possible by Government policies of promoting export to

obtain greater world market share due to foreign _reserve

shortages which in turn are used to finance the import of

raw materials. Secondly, lower wage rates are available to

4

As a prelude, we briefly describe the Korean _{economy within}

the framework _of the NICs. _{Then we survey the economy in her}

own right with emphasis _{on past performances,} the _present

5

2.

_{Korea as a Newly Industrializing}

Country

The criteria of categorizing a country _{as a NIC seem to} be

of a very imprecise nature but to involve some degree _of

industrialization, _economic infra-structure, _capacity level

of production and current level of GNP. As these structural

characteristics are in general difficult to measure, we show

briefly the level _{of a few state variables of} NICs that _may

distinguish them from the _{rest of} the _world.

Countries _usually termed _{as an NIC range} from _{those which}

still largely have the characteristics of developing

countries as well as those whose economic performances, if

not their international influence, are ranked together with

Industrialized _countries. Korea, Taiwan, Hong Kong _and

Singapore _{are usually} known _{as the} Asian NICs _while Mexico,

Brasil _{and Argentina as the} American NICs. These _countries

are so diverse in nature that it is difficult to derive any

common characteristics except that their GNP per capita are

between _{a quarter} to _{a half of} those _{of an advanced country}

and the fact that they have enjoyed rapid economic growth

for the last twenty _years. It is inevitable, _therefore,

that _{not all} NICs fit into _{all of} the following

6

2.1

_{Real GDP growth}

As it is _obvious from _{the. date shown} in _table 2-1, _{the NICs}

enjoyed a sustained growth in real GDP relative to those _of

the LDCs and the Industrialized _countries. The _comparison

with LDCs may provide a more realistic _{picture of}

performances of NICs _as a growth rate of 2% in _an

Industrialized _{country, with} its large _{size of economy, may}

in fact _{be comparable with about 10% growth of a NIC with}

its _{relative smaller economy. In many countries, growth was}

partly export led. Exports in Korea, for example, were

contributing between 20 to 30 % of incremental growth _each

year during the 70s and early 80s. This consequently led

many NICs to become heavily dependent _on their foreign

sector earnings. A study by Ezaki (1985) _{on the econometric}

link between _{various countries using international income}

multipliers is _a good example which shows the high

interdependent _{relationship among various economies} (table

2-2). _{As it is clearly evident} from _the income _multipliers

between _NICs

and other regions of the world, figures listed

in _{row 2 are relatively} larger than the _{reverse effect shown}

in _column 2, i. e., if NICs increase their _autonomous

expenditure by 1 unit, the impact of this change on other

countries' GNP will be less than vise versa. This _asymmetric

mutual cross effect can be described _{as due to the} fact that

shares of foreign trade of NICs in proportion to their

domestic _{market are much} larger _{than the industrialized}

countries. However, within a time _{span of} 8 years, both

multipliers have increased implying _{a greater role} being

7

Table 2-1

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Table 2-2

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Q _{. -I N Lfl M . -1 ri O r-I 00 N} V co _{Ui . -4}

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9

A second reason for a relatively faster growth of GDP may

have been _the high _{rate of capital accumulation as can} be

observed from table 2-3. The average of Asian NICs amounts

to _about 32.2 _{as opposed} to 26.6 for the _{rest of the} Asian

countries. Malkiel (1979) estimated the fixed investment

ratio with respect to GNP in the U. S. A. between 1965 and

1974 to be 10.4 _while in 1977 it fell to 9.3. He argued

that _{one of} the _reasons for low investment _ratio towards the

end of 70s was the fall in Tobin's q ratio. It is defined

as the market value of a company divided by the replacement

value of its assets. A high q ratio implies that

corporations will be encouraged to invest in new equipments

whereas if assets sell for less than their replacement

values, corporations selling new securities to buy new

capital goods _{will create capital} losses to their share

holders.

Gross

investment

_as

_a

_percentage

_of

GNP for

Korea

in

particular

is

shown in table

2-4.

It

shows that

an average

of 20 to 30 % investment ratio accompanied the GDP growth

rate during this period. It is however, less clear whether

the Tobin's _{q ratio would} be _able to _{provide explanations}

for _{such a ratio} in NICs in _{absence of a well established}

stock market.

2.2 Debt _problem

That domestic _{saving was unable to match the high investment}

10 0 0 . rq c1 sý 0 [a U U) N 0 Si

Table 2-3

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Table 2-4

(1)

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rn

N Co

bi _{. al}

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+3 E [O

Cl) N S-I (U

tT E 4-1 _r-I

+. _{N 4-1} J a

1J W[U

«1 (n >a) _-4

v) OZEE

F--4 >, O

. ""1 C U)OC')r4U) U) (M C"1NQ\ UlOoMW ,. -IN _-i cm cu Z

MH""N LL O

C _tf1a0Nuf 4 _{r-ICOu14O NNOc'"1O NýPtom} 4 _Cl) U

O" _{N-r0 -rLn L)Lfl ýo NU OU) 0,1 mtý%0} 0

-i W

" rl 1v

. 11 (D 0 4-,

( -- cn v

sa ý CD [-' O o [n

O

4J ýý z

C

O bi n

r

tT > lz Cl)

N rtf ". 1

110 e: _{r . --1 . -{ aH r1 . -r in Co} N /o %D rn _{. -a NO} --o in Co

Ca o

HZ _{r" wr} -Q 0C')W 'N 0 'IN'. 0 N0NODlf1 N4

0 _{-4 . -I . -4 . -1 . -1} N (N (N N (N N (N N (N NN C') (") N (N b i4

to ow 'IO

Q) 9Q Cl)

o ý+

W o43

cD way

z

"rl C

"ý

tu >

C(U

U,

r1

fö c:

r rn

od

12

exception is Taiwan. This meant that NICs had to _{rely on}

borrowing from _abroad. During _the 70s, _{most of the external}

debt _was long term borrowing _{as shown} in _{table 2-5, such}

that it _{was expected} that _with the _{continuous growth and}

high investment _ratio, NICs _{were' able to pay back in due}

course. From the NICs point of view, the long term

borrowings _{were of no real concern, at} least in _{the 70s as}

they _were favoured by high inflation _rates, low _{world real}

interest _rates initially _{and steady expansion of their}

volume of export with relative constant terms of trade. A

stable nominal world interest _{rate accompanied} by _{a high}

inflation _rate led _{to the low real world interest rate while}

the increase in the _{volume of export meant that the} debt

services as against total _{export earnings were} low. During

the _{same period} however, _{the sustaining inflation pushed up}

world nominal interest _{rates and added} to the burden of

interest _{payment in return} for _eroding the _{real value of}

outstanding debt. This inflationary acceleration became an

acute problem by 81/2 as the inflation rate fell with

nominal interest rate sluggish to adjust immediately. The

world recession in the early 80s meant a reduction in their

volume of exports (at least in the growth rate of export).

This _{caused serious} Balance _of Payment _{problems (refer to}

table 2-6) _{and NICs had to rely on short term} borrowing, _not

so much for investment but to pay for _net interest _payment

of the long term loans as well _as the _current Balance _of

Payment deficit. Since _{approximately two-thirds of}

developing _countries' debt _{as of '84 was at floating}

interest _{rates tied to the London Interbank Offer Rates}

13

Table 2-5

N

00 N Q, N m ri, _le

O _ý--I 01 (N V' fV :1

O 00 On le 0

00 O N d" ýt O _-1

C) Lf) lf) N N Cl

-I LIl c}' e1' . --I

O In Co c% 0 l0

O _{" .} .

U) 'cf' Co C% _-4 N r

(A N co _rl [V _r-1 N

N _{. --I} C (I ýt" _rt

00

Q) _{. -1} 0 N O U)

N N l0 Co Cl 0 0) r-

011 a1 O1 M Cl H _r-4 N

r1 V_- Cl Cl Cl T-1

N (I l0 Cl N O Lf1

CO _{. "} " _{. . "}

"rl I- lo 4.0 Co O Ol 00

f4 ₀₁ Cl Co U) Cl _{. -1} N

fa _{. -I} M N N _-4

Z$ Lt) (3) Cl _{le d'}

0 N

o N Co u1 O '. O u1 N

Qý N _Cl N N _ý--I N

'-I N N N rl

". 1 O N N tf1 ('7 N

R,

o _{N oo ý' .a Ln Ln Ln}

v-I 0) N 011 CO N . -I N

U1 _{ý- I} N _{-I . -1 rl}

N _Co Ul C) ýT _{. -I} 00

't3 _{tf1 .}

N O (1 I! ) N l0 Cl

i--I Q) 01 l0 to N vI (N

"rl r-I . -I r-I r-I . -4

O

I~ U) 00 _rl r- l0 'i' 00

0 N _le

r. b) I- 0 Co t+ 1 vý r _r-f

(d C) w (1 U1 O _r-I N

. 1_1 r.

A O _rl Co N sr rn

UJ U _ri

10 3-I N (D Co N Lfl U1 N

0) _(n Cl _{rI .-I r-I . -I} N

>ý a 4J

a)

_cj

_-

+1 N 0

x _uý aý cz

O Si U x

(0 "rI dw v

w _{'-I . 1.} )

A

0 0 i Q) +J U do

+)

0

(13

a)

x

0) o

_H [ _.u Cl) W U) C7

I 'L7

" -I ý- N ýC bi Sa O

b _{" -I} 4-J 4-3 C. ß. 0 A ca A

ýQ _PQ 0 0 wý ö _im ö

x 0

0

4)

0

'--I M W CO

00)

3 . --I

N Cci 00

0)

H _r-i

a)

14

Table 2-6

a)

O

04

(U co . -1 co ßl O Cl) O ₁₄ N 00 ON _{-4 r-}

01 N O\ 3- v 'V' u1 M U) 0 co -, zr v N to

9 N _r-I to _M 0 (fl _{'-1 v -I N} O1 N N in -rl m v. co al in to Ol 0 O . -1 O .4 . -1 N

U) _{V-4 . -I -4 V-4 NN} NM MM MM mM

O

U yr C\ f^) N co in m _{v. 4 -V 00 Lfl 0} to lD

"r1 N co O 00 N to U) mot' N co 0 CO Nm

x d' N O to tO 0 _-t' to _{tO . -1} to in rn r O _{r"I IT} to _{. -1 1t' Cl)} Ov Nv _{co M} N ₀₀

-I rl 1-4 CV N Cl) f`1 v NM NN f"1 N

N

U RS N OO NN O% to to _iA M _{v-I -4 m} "rl N to v-I MN N :' to . -4 Ln 0 00 co to tO

J $-1 _{r-1 N Ln v. 4} to f''1 N _tP CA LA M _Ln to LA

iI 0 _{N co co 'zi' N CO} NN _{00 -A 0N M Ui}

Q) :4 _{-4 r-4 . -IN} NN NM NM _(ß'1M Mt''1 En

La

OO OO OO OO OO OO OO

fA _{LA Ln} to O M In 0 _-4 LA N to vI O' v-I

FO (ti _{0) ý--I . -I Ql N --T} M Ol N L(1 ON (M to

O 04 _{CA N to m CO N} QN (N 00 0 C') 0 0 Cl) O (U _{r-I m NM to to} co co NN co to _{r4 N}

C7 f7 _{r-I . -I 1-4 v-I i--I . -1 r-I r-I . --I vI -4} N -I

E

r-1

(/i _"r1 Q1 N C) M U) O MN 01 M '-1 to LA '

U) N co rn Ol Q'. N LA NN to N -' CO OM (a V LA C'. NN Ol cc) ýP 1N MN NC

} ' _r-"1 N CO C tO to 00 C al -' _{. -I} OO

GQ _{-q C,} 4 _{. -4N} NM NM NM NM MM

b

ri

. rq JJ

N C".

V Q) l0 ₀₀ l0 l0 N Cl lfl LA LA N -: V to 01 to

rd W r7 V _{. 4m} c) (7% 0 Q'. LA (n tOv--I OO

P $-1 _{co O 0) 'r} N 01 co V' NO N (14 0) v

H Q N to Q'. O _{i--I U) r-I} tO Ql N Ol N Ol N

ý--I '-4 ýI i--1 rl '--I . "-I '"i

44

0

u)

U +) +i

ý4 $4

00 _{00 0)} O _-4 N M ý.

r-I Ra M N N co co CO aw CO

(d kE am CA ON ON ON am o,

00 W º-' _{. -I . -4 v. 4 -4} r1 _{. -I} --I

v 00 00 ON . -i 0 0 A 0 bJ

U tý Z 4J

"ri U 4J +)

tC -'-I" 4J C: En

a)

15

deterioration _of the debt _{crisis can} be observed from _table

2-7. The debt burden became _{an acute problem more so for}

NICs _{than the rest of} the developing _{countries. As Simonsen}

(1983) _{noted rightly, unless export earnings grow at a}

higher _rate than interest _{rate payments,} the _{country's debt}

burden becomes _worse. An interesting _{calculation by W. R.}

Cline (table 2-8) _{shows possible causes of} debt increase _in

non-oil developing countries. Since most NICs except Mexico

are non-oil producing countries and have a high dependence

on foreign trade, these figures may apply more so on the

NICs than the _{rest of} the developing _countries.

2.3 Unemployment

At least _{in the} Asian NICs, _{the problem of unemployment was}

not serious even during the recessions between 81/2 (refer

to table 2-9). This _{was mainly} due to the _{combination of}

sustaining real GDP growth and wage policies (or absence of

it _as is illustrated later). As in _most Asian NICs, the

total _population in Korea _{grew steadily after} the _second

world war and the Korean war as the political and economic

stabilities were reestablished. The consequence of this was

that the _{size of} the _{active working population will be}

increasing _{at a rate of} 3% each year for the _next decade _or

so. Therefore, unless economic growth keeps its _minimum

rate to _accommodate population growth, there is bound to be

16 In b f-I r-q 0 O Cl)

0

. r4

CQ

Table 2-7

rn

N 0N 01 O 00 O N "H -e t") H t! 1

pp _{"... ""} CO N

01 NCO (N . --1 Lf1 N 01 ONO -4 . -I 00 "-I r CO r-I NM 00 . --1 H Co l0 . -I N Ln

. -I NN 00 NO - U'1010NCO

CO _{.... ".} CO ."". ".

01 U Lfl Ul 00 v-I NN Ql N to _"-i tl CO CO i-I MN 1-4 . -I r) l0 H () t0 tO H ý"

O N . -1 NO le 00 0 m Co C OA M

Co _{""". ".} 00 ... ".

01 N tO C) to Ol NO _{. -I qe N} to

. -I N to . -I e-1 N Ln . -4 (h to ct' . -I m

c> -N N ßl Ui CD Q'. Cl to CA N

N _{"""". "} N

m o, No0v00 m HU-i NmN

-1 "-i In . -I N lT r-I N lO 1,4' rl to

Co Lnde eUiCO lo 00 lD rN NOOl

a (N Co "0«e-e _C7 N Q'. _---IC'Q'. QINP

l1. _{-I M} CD _ Im Ln d' v-4 l0

N NN(100N1

1

rn N _r-IN0)MNlD

"... N- N ...

01 01U1-7 N'-1N 0-1 ul Ol IJi COO r)

ý- i c''1 _{. -i "-I N} Hi r-i H l' a' H U-i

l0 M %D Ui O 011 Co a. J l0 (N m 1N N CD r

N _{... "} J. ₄ N _."..

0) CO CO e _{. -i Co ý--I} 0 Q1 tO U1 HN 01 O "--I N "-I N C, H N" V' ci'

x

Ui C1 mN 01 f"1 01 O Ul dl Co NN Ui f")

N _"""""" t- "". ".

m r, - f" Co N to 44 C', HO (N lD NO

ý4 N P-1 O H rý le 'r . -H m

mot' 0 O'. C _{. -1 O} Co ( MO 'cl' H 00 On

0) CO Co qt NlON b Cm r-Il0N

H _{,. A -4} 4) . -I NMm 1-1 N

m _{le Co to Nl0tD} N M 01 N. -4 V'UiN

N _{". """"} ü N """"""

ON to M (°) In -' Co S-1 Q'. Ql lD Ui rH Co

. -I . -1 v H H f*) 1'1 ri N

124

U,

ü ", -I

1

-1 "v-I

.ýN UJ "ý u)

-1-J N0

ý "ý-I Ný rtl ü r /-I NZ r6 ü

ON _{r-f O (L) "r1} 4J (1) N "-1 ON _"rl

N4 C r- Oa) Q) s4 rý Ov

QCQUNaGZ A _{RC Co Uý-1XZ}

17

Table 2-8

4)

1~. 0 _{. -I} 01 _{. --I 1-1} 0 N N

: 110 _'-zr I- N O _{(1) . CC)}

O _N

E

v

4-) N (0 O r4 Ol

z _'--I

E

ro U r.

ri N N

"r4 co r-i CO

O 1 ₀₀ 1

C. ' _mr 0) _'-1

O N _{-4 o0}

CYN _ON

O 4

O

>4 _t~

+J 0 U) 0

rl > _{. ý4}

N +J ( _W

'L7 U _N

r-4 O a>

r--ý "-, 44 ao U

ý ₀

3a _{-. 1 -I 1 1}

WM

av , -' cn _{a, Vo}

4J r M i1 r1

d1 b 44 44 0

0 _N 3

0 _{r. co}

OO N N O >1

". -I Cl) U) ! --I A

U) r--f N a)

X r-q U U r1 V

U"r1 X-- X co N

0.0 O >1 O of u1

r-i

U, f~ (U N

u] _{"rl O "ri} U co

NU U)

"r4 N U) d) ) U) '-I

0N _{cn 4} 4-º 0 cn

t~ 4J bN (U r-4 0 u) ri N c)

O !~ N dJ P _r+ E _{r- oo N}

tr) a p CD a) O _{rn M}

OO UO 41 V 4) 41 _{'-1 '-4 . -i} >C U t~ a cn rU E _rI

N _"- E u1 34 0

"r4 S4 +) E +J

44 s~ U N 0 A

O "ý U 4-3 4-4 > 'O a) _a)

U) ", 1 ", A z 0 ro V)

4J O

_-P

PO "r,

4J

ro

_ro

(a v (1) _{-0 . -I} E 0 (U 0 (U s4

a> _{EO 44 r-i (1) (13 -} a 4-) _{E 4-)}

W _{". -I r-} a) N >C 0 O O H T1 W 0v Pý N E+ E Ei

18 0 . rf 0 a 0 Rl 0 Ei 44 0 ow a) C4 4J a) 0 04 E

Table 2-9

" ;r co N kO Ufº NNm ON

b _{. -I} N _{. -I} N _{cß'1 r-I r-I -4} ...

N V' lD l0 _Lt) 9 _{1-: cn M}

. --I r1 r4 4)

is

0

04

(13 0 tf1 Ol l0 _ýt O _{01 tD N}

t71 _.

g _%D 4 _{c4 rMmNNM}

., -I

( _{Lfl "4 OD N CO N Lfl d'}

. -I

y4 _"

O _{ýr ýr mr c*) LO v ýr Ir} x

9.1

(d _-4 C) N _{. -I C) N cf N}

04

(tý _{. -I . -I} NNNNNNN f7

0

01 (U _{r-+ mm on co co N Ln}

O r- _{0s NNMMc4}

x

N. _""

R1 (d RS Mv co (U m td (d

NNN _mot'

fd

Lam,

O ₀₀ m co co 0M U) 00 N

..

$4 _{ýt' NNNNN444}

O _Ln N _CO ON 0 _'--I N _f7

r- _{r- r-} r- r- 00 _{00 CO co}

ON _O) 0) Cl mm _{01 Ql}

1--1 _{1-4 11} e4 rl rl r-1 _r-1

le a,

Co Ql

. ýC 0 0 N4 NN

0

U ni r4 Z 4-1

ri N

19

Another important _aspect to be _noted is the _{set of}

characteristics of the labour market which may have kept the

unemployment rate low and could keep it that way in whatever

circumstances of the economy. As it is evident from the

Korean _example, the _{ratio of union member against the total}

number of employment in early 80s was still only 8% which

was much lower than in most industrialized countries. The

"Labor Union Law" _and "Labour Disputes Adjustment _Laws"

which were revised extensively and repeatedly in the _early

70s in Korea for _{example granted the Government the right to}

order a union to change its decision or make the decision

null and void. Such _strong legal _grip by the Government

assured that _{enough wage flexibility was introduced} to keep

its _{economy competitive and in full} employment. _{This is}

evident in the growth _{rate of} real wages between 1970 and

1986 in table 2-10 _{which exhibits no consistency.} The real

wage growth rate does not reflect a stable growth path with

nominal wage rates adjusting for inflation. It is more

closely correlated with GNP growth rate supporting the

earlier claim that wages were raised or lowered according to

the _{success or} failure _{of economic performance.} Since '86

however, there have been _{serious strikes which} have _put

Korea _{into a period of transition} in _{terms of} Unionization,

forcing the Government to adopt _{a much more} liberal _attitude

20

Btý

s

t-+ 41

ýx

a, Co a, m O O C1 N Co N rn N N rn to N rn N °. i

N N n r4 N O N

ýl

Ln %D M _P--I N to _{. --I} N

F-1 P-A

N _{01 t0}

1--4

U) O _CO

ý' l0 _to cl r2 _r-I to O

!! ) M N Q1 N N CEO CO

Ln tG M _{. -1} N U) _r-I to

U) Q1

" -I

N

. CO l! ) O N

O CO

G1 Q1 _{ý! '} N _c}' 10 ₁₁₁ N

. -I

. -I r-I ri

M N

rl

O r-1

ý`'1 ' -4

tO

N fý

ýi' 00 N N Qý GO Co _"-1

"

LI) N " N " " l0 " _{N LA} M CO

tD _'ýt' tr1 _.ý lD _{. -1} tO _{. -4}

l0 _r1

r4 N rI O N N I Co _r--I N N w

GO M [N N NN _to N N

1.0 _Co N lI 0 N

O _{'ýt' M to} Iý _{p1 U) cr}

Iý _{Co Co Co Co tn ý} Co

O _{lA Iä r2 cr 01 eM O'}

P-A N

r44

M

Hr- _{P-1-44 CD} r- le

Iý N _{r-1 CO LI) Lfl in et}

"

O O " O . _{m -1} O " M "

Co

r-I M '-i cfl N '--I CO

07 M N O _In U") d'

Co

. --1 ri t11

U) e -i

l7'

M %D _r-4

tN 00

N lY

U) M O d' l0 N

Co

N N

rý-I to

Co lle

LA ri M M CO %w f"1 ö

U) U)

f+)

4

N M U) oO A _r-I to Iý

O l0 _ýi O M U) iN CO

0 M " r _CO " M _M

'-4 0 ) i-

C

M _{. -i} N 0) 0 CO N f'

" 1f)

" IN

.

' " N ₀₀ " _Cl) "

Qý M

rl U) U) N C to N N

Q1 N Cý1 Qý 0 _t1

N 0) Q1 M N _O

d' M

U) r-I

to

N 0) N _'-I O _{O M} r-1

ý C ý N >

t7 O CT

J N

cII o

r-i Q H r

°

s°

9

_t

C3

₃

. i. -

W a)

41

9

"S

ý 2v

°' äö

L4 ý4

21

2.4

Balance

_{of Payments}

With few _{exceptions such as Hong} Kong _and Taiwan, _{most of}

the NICs _suffered from Balance _of Trade deficit _{(table 2-7)}

in _{spite of their rapid growth of export. This may have}

been _{the result of} their large _{volume of} import _{of petroleum}

and capital goods from _abroad. In _addition, Brazil _and

Mexico _{conducted an ambitious venture} in the 70s investing

heavily in _{reshaping their economy} by _{constructing heavy}

industries _{with a long term perspective.} Recession in _the

early 80s brought loss to the ambitious venture as the debt

burdens _of Brazil _{and Mexico show in table 6 while Taiwan}

and Hong Kong, with _{obviously smaller economic size,}

ventured much less ambitious investment _{and concentrated}

more on light manufacturing _{goods such} that they _{were among}

the _{very few countries in NICs as well as in the rest of the}

LDCs who avoided the debt _problem. Korea _{could be regarded}

as somewhere inbetween these two _extreme cases. Another

aspect of the Balance _of Payment _problem was the loss of

terms _of trade. The _{commodity export prices} for NICs _are

sensitive to the business cycle of the industrialized

countries in that in periods of recessions, export _prices

fall. This is due to the fact _that NICs have _{to adjust their}

export prices with those of the industrialized _{countries so}

as to keep their export goods competitive _and thereby keep

their _{volume of export} from falling. The import _prices,

however, _{do not always reflect the general inflation rate of}

the industrialized _countries because the NICs _{with no real}

resources or advanced technology have to _{rely on} their

efficient _{and cheap} labour force to import _{raw and}

intermediate _{materials and commodities, then manufacture}

22

assemble them for export. As the raw materials and

intermediate _{commodities' prices} do not _{necessarily reflect}

the inflation _rate, the terms _of trade _worsen if inflation

rate in industrialized countries are brought down sharply.

This _{phenomena was} felt _{even more so when} there _was the

price rise of oil with falling inflation in industrialized

countries in the early SOs.

Invisible trade has _{played a relatively} insignificant _role

in NICs _until the _mid 80s _{when gradual} deregulation in

financial _{markets were observed.} One of the main reason for

this _was that there _{was no stock exchange such as can} be

found in New York _and London _except in Hong Kong Since

Governments _{are more devoted} in finding the _right funds for

industries in the _{exporting markets,} industries _{never really}

felt the _necessity to _{generate such a stock exchange}

Foreign investors _{on the other} hand _saw too _much risk in

investing in NICs _{of which} they had _{so little} information.

This lack _of foreign investment has its _advantages in that

the _{exchange rate was responsive only} to real changes such

as net values of trade and not subject to volatility of the

exchange rate as some industrialized countries experienced.

In countries such as Korea and Taiwan, financial transfer to

abroad was strictly controlled by the Government. In other

words, the domestic interest rate was independent to world

interest _rates. The importance _of the _world interest _rate

lies in _that it determines the _{cost of net} debt _service.

Therefore, _{as rightly noted} by M. Ezaki (1985), the _only

23

import

_prices,

_controlled

_financial

_flows

_and

_human

_and