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South Korea’s Economic Engagement with China; By Shruthi V.

C3S Paper No. 0160/2015



China and South Korea formally signed a bilateral free trade agreement (FTA) on June 1st 2015. The agreement, which is China’s largest ever FTA so far, will remove tariffs on more than 90 percent of goods after it comes into force. The deal is a historic milestone which will have multiple influences on free trade in East Asia[i]. The Republic of Korea has signed free trade deals with countries like United States, European Union, ASEAN and India. The trade between China and ROK reached USD 290.5 billion in 2014[ii].The new Free Trade agreement between China and South Korea is expected to give a boost to China-ROK economic relations. Although, China fought on North Korea’s (DPRK) side against South Korea (ROK) as well as the U.S led U.N. forces in the 1950-1953 Korean War, China has been economically drawn to ROK in the recent decades. Despite, U.S-ROK relations and the political turmoil prevalent in the Korean peninsula ROK has not been deterred from growing close to China. In order to understand the growing economic ties between China and ROK, we will now address the following questions.

What was the situation preceding economic relations between China and South Korea? What is the present status of China-ROK economic relations? What are the challenges faced by both China and ROK in building economic relations? How do U.S, North Korea and Japan come into the equation? How can India benefit by improving its economic ties with South Korea?

China and South Korea’s Economic Bond:

After the defeat of the Japanese during Second World War, the Korean peninsula was divided into Communist North Korea (DPRK) and Capitalist South Korea (ROK). In order to unify the Korean peninsula under one Communist regime, the North Koreans invaded South Korea. The Chinese supported the North Koreans in the war, while South Korea was supported by U.N led U.S forces. The war ended in a stalemate, with an armistice being concluded between South and North Korea. In the aftermath of the Korean War, South Korea was completely devoid of capital and natural resources. In the early 1960’s the country decided to adopt export oriented economic development plans. Similarities in export oriented market brought South Korea and Taiwan together, with both maintaining warm relations with each other.  China was North Korea’s ally hence no diplomatic ties were established between China and South Korea. However, in the mid 1970s, due to its growing economic needs South Korea had to establish trade with China. Therefore, indirect trade was conducted between both the countries via Hong Kong.

In the early 1990s China’s trade with South Korea exceeded the trade volume with North Korea. In order to further improve trade and ease tensions with rival North Korea. South Korea and China began a series of normalization talks to establish formal diplomatic ties. Finally in 1992 both the countries established formal diplomatic relations. Following Seoul’s establishment of diplomatic ties with Beijing, Taipei cut its diplomatic ties with Seoul[iii]. The South Koreans by then had realized China’s potential as a huge consumer market and as a source of cheap labor. Hence, South Korean companies started pouring investments into China. However, in November 1997, South Korea was hit by a foreign exchange crisis, which contributed to a slowdown in China-South Korea economic relations. The country had to turn towards the IMF for funds. Due to difficulties involved in cash flow many Korean companies cancelled their investment projects in China. However, South Korea regained its economic growth rates within two years. About 3.5 million people gathered and donated gold and helped the Korean government repay back its debts to IMF[iv]. The restructuring of the Korean economy turned the country into a more globalized economic and financial system. After the end of the economic crisis, the South Korean economy continued to record high economic growth rates. In the meantime, South Korean companies also reassumed their investments back into China. As China became a member of World Trade Organization in 2001 various foreign companies were flocking into China for investments and South Korea was no exception. Except during the periods of normalization (1992) and financial crisis, South Korea has constantly recorded steady trade surpluses from its imports and exports to China. Therefore economic co-operation is one of the main themes in present day China-ROK relations.

Seoul’s economic instrument: FTA’s

The economic co-operation between China-ROK has been outstanding. South Korea has constantly been initiating free trade deals with many countries such as Chile, Singapore, India, European Union, Peru, United States and Turkey. Seoul has been using FTA’s as strong economic instruments to gain access to markets and promote trade abroad. Though the economic co-operation between China and ROK has been exceptional, no free trade agreement existed between China and ROK. Initially, the China-Japan-South Korea FTA was proposed, however the negotiations dragged on for some years. Finally it was stalled following China’s disagreements with Japan over the East China Sea islands dispute. If the agreement had come about, it would have greatly altered the regional trade/investment scenario. Therefore, South Korea did not have a FTA with its biggest trading partner China for a long time. Unlike with Japan, the absence of territorial disputes between China and South Korea has brought both the countries together to engage economically. Hence, a new Free Trade Agreement between China and South Korea was proposed in 2004.However, due to protests from Korean farmers who feared cheap Chinese imports, the China-Korea free trade deal negotiations continued for more than ten years[v].Therefore, the new FTA has been carefully drafted to take care of sensitivities on both the sides.

According to the new agreement, Beijing and Seoul will need time before they completely open their markets. The 20 years grace period has been set to minimize the damages to the industries of both the countries. China is set to remove tariffs on 71 per cent of its exports to South Korea in 10 years and 91 per cent in 20 years. In return, South Korea will remove tariffs on 79 per cent of Chinese imports in 10 years and 92 per cent in 20 years[vi]. The free trade deal will be applied on 21st century trade and economic issues such as electronic commerce, tourism, healthcare and logistics. Thus, the new agreement is set to promote trade and investment in high technology items.

The FTA also allows small and medium sized South Korean firms to gain greater access to China’s vast consumer market and is expected to create more than 50,000 new jobs in South Korea[vii]. In China, the sale of South Korean cosmetics, apparel, home appliances and food products are expected to increase. This may be due to growing demand among China’s middle class. However South Korea’s agriculture, livestock and fisheries have been subjected to protectionism, because South Koreans fear that they may lose their markets in these sectors. China and South Korea have signed a Social Insurance Contribution Agreement, a document which spells out the exemptions for payment of social welfare by expatriates in each other’s country.

The new FTA signed is for Mainland China only and does not include Hong Kong. Since, Hong Kong maintains its own agreements, including a Double Tax Treaty with South Korea which was signed last year.

The Kaesong industrial complex which was established as a joint venture between North Korean and South Korean governments during a period of warming relations is expected to benefit from the new free trade deal. According, to the new agreement between China and ROK, more than 300 categories of goods produced in the inter Korean region will enjoy tariff cuts. This is the largest number of products from Kaesong Industrial Complex in North Korea that will be eligible for tariff reductions in a bilateral trade pact signed by Korea. However, this is a marked difference from the fact that South Korea’s FTA with United States KORUS doesn’t deal with products manufactured by South Korean companies in Kaesong. Initially, The Korea-U.S FTA signed in 2007 was stalled for some years on the treatment to be extended to Kaesong Industrial complex. Finally, The KORUS agreed to by Obama excludes them for political reasons. However, China has bent over backwards to accommodate Korea’s wish to include products manufactured at Kaesong.This proves the prioritization given by China to South Korean government. Although the deal was crafted for the mutual benefits of both the parties, disagreements have existed about the implementation of FTA as it includes benefits of cutting tariffs. In Korea there is also a fear that there would be greater high technology penetration from China and a fall in China’s economy may have ripple effects on its economy too. Hence, the new agreement is still subjected to parliament ratification in both the countries.

Challenges involved in China- South Korea Economic Relations:

China-ROK relationship is said to be at its best since President Xi and South Korean President Park Geun Hye came to power. After assuming power President Xi became the first Chinese leader to visit Seoul before visiting Pyongyang. The recent improvement in economic relations has brought Beijing and Seoul more close than before. However, traditionally Seoul and Washington have been close allies. In order to manage its security threats from its northern neighbor, South Korea largely depends on its security alliance with the U.S. Their alliance is also an important factor in Korea’s political and economic success. When, China announced that membership was open for the Asian Infrastructure Investment Bank (AIIB), Washington had warned all its allies not to join AIIB and Seoul seemed to be vague about its decision. However, when USA’s European allies joined AIIB, South Korea was no exception. ROK has now clearly understood that its economic well being totally depends on its partnership with China. Simultaneously, China and South Korea face their own challenges in the economic sphere.

Technology leakage is one of the critical issues involved in China-South Korea trade relations. Most of China’s companies are eager to absorb technology from South Korea. Unlike the South Korean firms the Chinese companies also offer stock options and better salaries to engineers. Hence, many engineers move from South Korea to China. The South Korean engineers also feel that the working conditions in China seem to be better than South Korea. Similarly, Chinese Diaspora living in South Korea also helps China in upgrading its technology. Comparatively, South Korea overseas community size seems to be small when compared with the Chinese. Therefore, China benefits largely from its overseas community. The local Chinese companies also appear to be giving a tough competition to the South Korean companies. The Chinese manufacturers are now increasingly producing the parts and equipment that once were imported from Korea. However, many Korean companies still continue to depend on China, as it serves as a base for production and the destination for exporting finished Korean goods to other countries. Hence, the Koreans will be in trouble if Chinese exports falter. However these challenges have not stopped South Korea’s investments to China.  Nevertheless there exists a challenge in the form of relations with other countries. South Korea’s deep engagement with its neighbor China has definitely alarmed its traditional ally United States.

Complex China-South Korea Relationship:

During the 1950-1953 Korean War, only an armistice was concluded between North Korea and South Korea. Till date the Korean peninsula remains officially at war as no peace treaty has been signed. The U.S also stationed its troops in South Korea as deterrence against possible aggression from North Korea. Aside from the political challenges, The United States has also granted a total amount of USD 60 billion foreign aids and loans to improve South Korea’s economy. However, United States growing trade deficit with South Korea may have paved the way for China-ROK’s close relationship. Though U.S-ROK economic ties may seem to be deterred, U.S-ROK military relations are strong. Maybe, China is keen about gaining a foothold in South Korea via the economic domain, mostly to counter American influence in South Korea. However, at the same time China has not ignored its other neighbor North Korea.

Right from mid 2000s China increased its economic assistance to North Korea, calculating that a successor leadership in Pyongyang would normalize relations with the outside world and carry out internal economic transition. However, unlike North Korea’s previous leaders, Kim Jong Un seems to be more aggressive with his policies. Therefore, as Pyongyang remains unwilling to satisfy Chinese expectations. Hence, the Chinese have now recognized the need to build relations with ROK. Similarly, ROK wants to improve its relationship with China, by beginning with trade and investments but later extending for political and strategic needs. However it is not clear, how economic ties can deter aggression from North Korea. China’s pressure on Pyongyang to secure South Korea cannot be effective as there is presence of United States’ missile shields in ROK. Despite economic rapprochement, China-ROK economic ties cannot match the depth of USA-ROK defense ties. Apart from economic and strategic interests, maybe China’s push for FTA process with South Korea is to increase pressure on its other neighbors. The Cross Strait Agreement on trade on services concluded between PRC and Taiwan aimed at liberalizing trade was signed in June 2013.However the treaty has not been ratified till date due to various domestic issues. This shows PRC’s intention to pressurize the Taiwan in speeding up its free trade agreement.

Japan being one of the prominent business hubs in East Asia has failed to impress China and South Korea. Considering the historical past and territorial disputes, China and South Korea have now come closer together to counter balance Japan economically. The multilateral forum among China, Japan, South Korea and ASEAN, often termed as the ASEAN plus three. Despite uncertainties in the global economy, ASEAN’S trade with Plus three countries has been spectacular. In 2013, ASEAN’S trade with Plus three countries amounted to USD 726.4 billion[viii]. Therefore, ASEAN’s Trade with the Plus Three countries proves the economic potential among these three nations. Undoubtedly, China is now emerging as one of the dominant economic players of East Asia. This also proves FTAs have now become strong economic instruments for Seoul. It will be useful for countries like India to study and understand the experience of countries like South Korea.

Opportunities for India:

India has been ignoring the opportunities available in South Korea. Although, India and South Korea implemented their free trade agreement Comprehensive Economic partnership Agreement (CEPA) in January 2010, the bilateral trade between India and South Korea amounts to USD 16 Billion. The trade and investments between both the countries has been less than desired since India’s trade deficit with South Korea is about USD 8 Billion. In 2013, Korean companies such as Hyundai motors, Samsung Electronics and L.G have investments in India amounted to USD 3.35 billion in India. The investments and trade between Korean Companies in India show the less attention paid to India-South Korea economic relations. However, Prime Minister Narendra Modi’s visit to South Korea in May 2015 has been a turning point in India-South Korea relations.

South Korea’s engagement with India can be traced back to ancient times, when an Indian princess from Ayodhya traveled all the way to Gaya Kingdom to marry a Korean King. In the present day context, this story has come under the spotlight to promote and strengthen India-South Korea relations. During Prime Minister Narendra Modi’s visit to Seoul, agreements were signed to promote bilateral ties, develop infrastructure and improve exchanges between the countries. Unlike Japan, South Korea and China, India relatively has a younger population. The Indian markets are also expected to grow, due to demands from its growing middle class. Thus, all these factors are definitely set to attract investors from abroad and South Korea is no exception. The South Korean companies who invest abroad are most likely to choose India as their ideal destination, since the country has abundant natural and human resources. Apart from investments, the South Korean companies can also share their technology and create new job opportunities in India. In Southern India, Tamil Nadu’s capital Chennai boasts of having some of the major Korean companies like Lotte, Posco, Daewon, Samsung, Myung Hwa and Dong woo. Chennai’s proximity to Bay of Bengal and its ever growing population has brought Korean investments to South India. Similarly, Korean Companies can also venture into other states in India. In the recent years, establishment of Korean Cultural centers in some of India’s major cities has stirred an interest among Indian people to learn more about Korea’s culture and language. Thus apart from looking towards the west for opportunities, India can look up to the East to engage more with countries like South Korea to achieve economic progress.

Conclusion:

After the end of Korean War South Korea was one of world’s poorest nations. However, it adopted the export oriented market system to become one of the richest countries in the world. South Korea has also been using free trade agreements as strong instruments to promote its economic relations with other nations. China being South Korea’s largest trading partner, signed a free trade deal after ten years of negotiations. Despite various economic and political challenges, the new free trade deal is set to give a boost to China and South Korea’s relations. Hence, growing economies like India can also utilize South Korea’s Investments and technology, to create job opportunities and improve its economy. Therefore, it is clearly understood that South Korea is one of the gateways for economic opportunities in Asia.

In the past, the world had placed too much significance on U.S-North Korea relations or China- U.S relations. Hence, no proper attention was given to South Korea. However, South Korea has definitely paid a major role in maintaining peace, stability and de-nuclearisation process on the Korean peninsula.Hence, China and South Korea’s relationship has now gathered global significance. China’s push for the FTA with South Korea is not meant to target Taiwan or Japan but only to serve its economic interests.

On the other hand, there is scope for improvement in trade between India and South Korea. India should as desired by South Korea, upgrade the CEPA agreement to include more products such as machinery and certain kinds of steel products. However, India will hesitate to undertake this measure due to declining global prices in the steel sector. Nevertheless, a balance can be struck by ensuring mutual benefit. On these lines India-South Korea relations can evolve to be stronger than steel and reflect a bright partnership in the 21st century.

References:

[i] “China-S.Korea FTA sets positive precedent”, Global Times, June 1 2015, http://www.globaltimes.cn/content/924842.shtml

[ii]“China-ROK FTA to change Asia-Pacific economy: former official”, Want China Times, June 11 2015,http://www.wantchinatimes.com/news-subclass-cnt.aspx?id=20150611000078&cid=1102

[iii]Sheryl Wudunn,“China and South Korea Planning to Establish Diplomatic Relations”, The New York Times”, August 23 1992, http://www.nytimes.com/1992/08/23/world/china-and-south-korea-planning-to-establish-diplomatic-relations.html

[iv]Facts about Korea.(Republic of Korea: Korean Culture and Information Service, Ministry of Culture,Sports and Tourism, 2015) https://books.google.co.in/books?id=A4dsBgAAQBAJ&pg=PA270&lpg=PA270&dq=korea+korean+culture+and+information+service&source=bl&ots=qavCmx8sLE&sig=hh6jwqTKZyACNxYwImQJgfjTtvM&hl=en&sa=X&ved=0CEYQ6AEwBmoVChMIzcXggcOTxgIVEYK8Ch3FSgIe#v=onepage&q=korea%20korean%20culture%20and%20information%20service&f=false

[v] “South Korea China sign Free trade pact”, Japan Times, June 1 2015,



[vi] “Seoul and Beijing sign historic free trade agreement”, Asia News, June 2 2015,

http://www.asianews.it/news-en/Seoul-and-Beijing-sign-historic-free-trade-agreement-34400.html

[vii] “South Korea, China formally sign free trade pact”, Channel News Asia, June 1 2015,

http://www.channelnewsasia.com/news/business/south-korea-china/1885140.html

[viii] Mu Xuquan,”ASEAN +3 Countries maintain trade, investment momentum despite challenges: joint statement”, Xinhuanet, September 8 2014,http://news.xinhuanet.com/english/world/2014-08/27/c_126921254.htm

(Shruthi V. is an intern with Chennai Centre for China Studies. As a statutory requirement of her academic course in Stella Maris college, she is required to carry out research in a think tank  on identified issues in China under the guidance of the members of C3S.  The views expressed in this article  how ever are of the author. E-mail: shruti21093@gmail.com )

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