By Jeff Ferry, CPA Research Director
Press reports emerging on Monday, July 3rd, suggest that President Trump is pushing for a special 30-day review to amend the U.S.-South Korean trade deal known as KORUS.
Last week, South Korean President Moon Jae-In said he wanted no change to KORUS, so it’s not yet clear what will happen. But there’s plenty of room to improve upon (or discard) a trade agreement that has delivered little to nothing for the U.S. Five years after it went into effect, KORUS has seen only continued Korean economic growth, but an escalating bilateral deficit for the U.S.
In our view, President Trump might have done better to have begun last week’s meeting by congratulating President Moon on an important industrial event: in the second quarter of 2017, Samsung Electronics surpassed Intel as the world’s largest producer of semiconductors. According to analyst firm IC Insights, this year Samsung Electronics will sell around $64 billion worth of semis, compared to $61 billion at Intel. The difference in profitability is even starker, with Samsung’s semi division expecting operating profit in the June quarter to come in at $6.6 billion, and $28.5 billion for the full year. That compares to Intel’s forecasts of $3.9 billion and $17.6 billion, respectively.
The success of Samsung Electronics in a crucial product category that drives key trends in so many other areas of technology can be seen as a crowning achievement in the South Korean industrial strategy that has made the medium-sized East Asian country one of the world’s leading economic powers. South Korea has achieved world-class ranking in semiconductors, smartphones, motor vehicles, home appliances and other important industrial sectors. A key element of the success of the strategy has been to use an undervalued currency to help it run a large, persistent trade surplus with the rest of the world, enabling those businesses and their parent companies, the so-called chaebol conglomerates, to enjoy export-led growth.
Part of that growth strategy has been a large and growing U.S. trade deficit with South Korea. In 2016, our goods trade deficit with South Korea was $27.6 billion, more than double the $13.2 billion deficit we ran in 2011, the year before the KORUS trade agreement went into effect. It’s worth recalling what President Obama said in 2011 when KORUS was signed. He forecast that KORUS would lead to an increase in U.S. exports to South Korea of some $10 billion to $11 billion, leading to 70,000 additional U.S. jobs. Two points about that “forecast”: first, it is based on an oversimplified economic model of trade that assumes that the U.S. economy has no unemployment and that sudden changes in trade patterns caused by a trade agreement do not cause any unemployment. Secondly, that forecast did not consider the import side of the equation. This is the Sammy Davis Junior approach to economics (“Accentuate the Positive, Eliminate the Negative, Don’t mess with Mr. In-Between”). The then-president’s advisors at the Council of Economic Advisors and at the U.S. Trade Representative’s office apparently thought it acceptable to treat an unrealistic economic modeling exercise as a “forecast” worth sharing with the American public. It’s a sad commentary on the state of academic economics today. (Can’t explain unemployment from trade? No problem, we’ll just assume it doesn’t exist.)
Today, in 2017, using commonly accepted estimates, far from generating jobs, KORUS has cost the U.S. economy some 80,000 net lost jobs.
A Better U.S. Trade Performance…Before KORUS!
A look at the performance of our exports and imports with South Korea shows at a glance why KORUS has been such a failure. As Figure 1 shows, our imports (red line) from South Korea surged under KORUS, up 23% in the five years from 2011 to 2016. Unfortunately our exports to South Korea fell slightly (2.7%). Note that our failure to increase exports is not due to a weak South Korean economy. As Figure 2 shows, the Korean economy has grown strongly in the last five years. In the four years 2011 to 2015, Korean GDP grew by 15%, but Korean total imports fell by 17%, even worse than Korean imports from the U.S. In virtually every single-year or multi-year period, Korean exports grew more quickly than Korean imports. This is Korea’s export-led growth strategy. The failure of the U.S. to increase its exports to Korea is due largely to a set of Korean government policies, perfected since the 1960s, that repress consumption in favor of investment and exports. According to the World Bank, South Korea’s current account balance in 2015 was a very high 7.7% of its GDP. That’s the best broad measure of consumer repression. On top of macroeconomic policies such as a won currency that is some 14% undervalued according to CPA calculations, the Korean government also uses non-tariff barriers to make it difficult for exports to penetrate that market. The Korean government has engineered an oligopolistic business sector with strong incentives to export and penalties for failure.
Figure 1: US-Korea Bilateral Trade 2001-2016
Source: US Bureau of the Census
When President Trump next discusses economics with President Moon, he should point out that KORUS has not worked for the U.S. He could say that in the five years before KORUS (2006-2011), our exports to South Korea actually increased 35%, far better than in the KORUS years. Strangely enough, Korean exports to the U.S. grew 23% in those years, almost identical to their growth in the KORUS period. That suggests the U.S would be better off to simply scrap KORUS. We could and should maintain close political and defense relationships with South Korea, an important U.S. ally. But from an economic point of view, KORUS was a mistake. Let’s dump it and start again. That’s why they put erasers on pencils.
Figure 2: Exports Drive Korean Economic Growth
Source: World Bank
Globalists on Steroids
There are some people who learn nothing from historical data. Thomas Friedman, the New York Times commentator who has built a career out of championing globalization, was at it again the other day, calling for the U.S. to revive the Trans-Pacific Pact (TPP), a free trade agreement with eleven Asian nations that President Trump killed back in January. KORUS was widely seen as a blueprint for the TPP. In last Wednesday’s New York Times, Friedman and his sources, Asian businessmen who are hungry to sell into the U.S. market, talk in vague woolly language about getting America “embedded” in those Asian economies, to the alleged benefit of U.S. foreign policy. Of course, what those Asian businessmen really mean is they see a juicy revenue opportunity in a big, dumb U.S. consumer market that allows its currency to be overvalued and its consumers to be fattened up on the steroids of cheap consumer credit and a political system that talks about foreign policy traditions and responsibilities instead of facing up to the decline of America’s productive capacity.
In 2017 so far, our bilateral deficit with South Korea has actually narrowed slightly. And South Korea’s current political challenges include a president who was recently pushed out of office and is facing impeachment, and a key member of the family controlling Samsung who is facing bribery charges. But this turmoil can be seen as part of the transformation of South Korea from a middle-income nation with some autocratic traditions into a modern democracy and member of the exclusive club of truly rich nations with a boisterously democratic public. As such, South Korea will make its own foreign policy decisions based on what its government feels is best for its own people. The U.S. does not get special influence by opening up our consumer market to their products. On the contrary, we can win influence by offering the South Koreans unique weapons systems or other technologies they can’t get anywhere else and that can help them deal with their two greatest worries, North Korea and China. That puts the spotlight right back on America’s need to invest in its own industries. It’s the production that matters, not the consumption.
For those in any doubt as to where current trends are leading, have a look at Figure 3. Using World Bank data, we’ve taken real GDP per person on a comparable basis (known as purchasing power parity), and compared South Korea and the U.S. We’ve taken the growth rates between 1990 and 2015 and projected them forward. South Korea’s fantastic average annual growth rate of 4.3% is triple the U.S. growth rate of 1.4% over this period. If those growth rates continue, fourteen years from today, in 2031, South Korea will surpass the U.S. in GDP per person. In other words, they will become a richer country than us. You can be sure that every middle-income Asian nation is looking enviously at the South Korean economic model and striving to learn from it.
It’s time for the globalists to stop their patronizing assumption that other countries need privileged access to our consumer market. And time for the rest of us to learn a thing or two from “Gangnam Style.”
Figure 3: South Korea Set to Surpass U.S. in GDP per head in 2031
Source: CPA projections based on World Bank data