The danger of subsidies

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The danger of subsidies


The prosecution on June 8 raided the headquarters of the embattled Daewoo Shipbuilding and Marine Engineering on charges of accounting fraud and other corruption. [CHO MUN-KYU]

Mr. A, who had run finance affairs for a company for 20 years, was recruited to head a mid-sized shipbuilder under creditors’ management a few years back. His role was to shape up the company to make it generate profit again. He cut back the workforce and denied any low-priced orders that would make the shipyard lose money.

His restructuring campaign, however, could not last. The state-run bank that was the main creditor and largest stakeholder ordered the company to execute a vessel order on behalf of another shipyard also under its management. The company was being asked to build a vessel already secured at a bargained price at a cheaper outsourced rate. He refused the work since such cheap shipbuilding at its dockyard would translate into huge losses. A few months later, he was told that his contract wouldn’t be extended. He was sacked. He was appalled by how poorly government subsidies were being used and how a state-run bank interfered instead of encouraging restructuring.

The state-run banks at the time hardly had any attention to spare on restructuring at the companies under their management after bailouts as they were themselves targets for reform. Soon after she took office in early 2013, President Park Geun-hye vowed to restructure the redundant and inefficient management of government subsidies. She wanted to rationalize various subsidies for exporters and big and small companies that were spread out under a number of offices.

State financial entities like the Korea Development Bank (KDB), Export-Import Bank of Korea (Eximbank), Industrial Bank and institutions all feared losing their power. They campaigned heavily against the plan. The so-called restructuring work only ended with the re-merging of KDB and the policy finance corporation that had been split up under the previous government of President Lee Myung-bak. Policymakers now regret that the situation would not have become so grave and costly if the restructuring had been different.

The government kicked off restructuring on the shipping and shipbuilding sectors. Earlier this month, the government pledged to create an 11 trillion won ($9.37 billion) fund to recapitalize state banks to stock up ammunition to aid their restructuring. Another 1 trillion won would go into Korea Eximbank. The government was, again, digging into the pockets of taxpayers to clean up a corporate mess.

Daewoo Shipbuilding and Marine Engineering cooked their books to hide losses of billions of dollars to claim it was the only among the three shipbuilding majors to make a profit back in 2013 and 2014. KDB, which owned the company, did not bother to check up on the shipbuilder that insured high-paying post-retirement placements for the bank’s executives. The government decided on a fresh bailout fund for the shipbuilder in a discreet meeting at the Blue House instead of discussing it through official channels.

Government subsidies played a significant role in Korea’s fast industrialization and modernization. It bred industries and helped draw foreign funding to social infrastructures like rails and roads. They were instrumental in cleaning up poor companies following the 1997 financial crisis and fostered venture industries. There always had been controversies of favoritism for large companies, but it helped to do more good than harm for the economy.

But we live in a different world today. Justice and reasoning for subsidies has waned. Companies can draw funds from overseas and easily raise money cheaply at home due to low interest rates. Yet the role of subsidies is getting bigger in our country as seen with the case of shipping and shipbuilding restructuring. Subsidy failures are being compensated and bailed out with new subsidies.

Excess can always be harmful. Subsidies are the same. Korea’s government subsidies reached 7.33 percent of its gross domestic product at the end of 2014, sharply higher than 0.99 percent of Germany, 0.83 percent of Canada, 0.45 percent of the United States, and 0.03 percent of Britain. In Korea, subsidies mostly benefit large companies instead of weaker, smaller ones. Bailouts of poorly-run large companies are funded at the expense of smaller companies and taxpayers.

This is hardly normal or sustainable. The economy should lessen reliance on large companies and instead be driven by start-ups and new-growth industries. Resources are wasted on zombie companies and private finance cannot grow weighed down by their bad debt. Yet there is no mechanism to rein in the practice. For the sake of the economy’s future, we must break the habit of subsidization.

JoongAng Ilbo, Jun. 16, Page 28

*The author is an editorial writer of the JoongAng Ilbo.

Rah Hyun-cheol
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