A growing number of Korean manufacturing companies have been moving production facilities abroad, frustrated by rising wages and complicated regulations at home.
While acknowledging that transferring factories to other countries may be an inevitable option for maintaining competitiveness in global markets, economists here express concern about the rapid pace of offshoring.
According to data from the Bank of Korea and the Hyundai Research Institute, a private think tank, the proportion of overseas production in Korea’s manufacturing output rose from 6.7 percent in 2005 to 15.6 percent in 2009 and to 18.5 percent in 2014. The figure is expected to surpass the 20 percent level this year.
The combined turnover of Korean manufacturers making direct investments in foreign countries showed a 2.4-fold increase from $157.4 billion in 2009 to $371.1 billion in 2014, compared with a 1.7-fold gain for the local manufacturing sector over the cited period.
A continuous growth in overseas output by Korean manufacturers has also resulted in local companies engaged in trade services suffering from plummeting profitability.
The deepening hollowing out of manufacturing industries in Korea is further weakening the traction needed to reinvigorate its sluggish economy.
This phenomenon seems to be a major factor behind the drop in domestic facilities investments by Korean companies in the first half of this year to nearly a quarter of the level in the same period of last year.
With producers of intermediary goods active in moving offshore, Korea saw the ratio of localization of such goods processed by its manufacturing firms fall from 70.6 percent in 2000 to 66.1 percent in 2013.
The number of new jobs created by a 1 billion won ($871,000) investment in the manufacturing sector also plummeted from 20.3 to 8.6 over the cited period, according to an HRI report released this month.
“What is worrying is that the hollowing out of the local manufacturing sector will be further picking up the pace in the coming period as the country is pushing for a wide range of industrial restructuring,” said Lee Bu-hyung, a researcher at the research institute.
A rise in protectionism across the globe may also lead to prompting the transferring of factories abroad as there are likely to be more trade barriers.
Experts agree that Korea needs to focus on developing next generation industries that can help boost its long-term growth potential as traditional manufacturing sectors that had driven its economic expansion in the past are losing steam.
They note, however, this approach should not be seen as meaning nothing more needs to be done to slow or reverse the flow of local manufacturers moving offshore. Rather, more efforts should be made to encourage them to invest and employ workers at home, they say.
Under the current system, manufacturing companies that move their overseas facilities back home receive corporate and income tax exemptions of 50 to 100 percent for up to seven years. But only 36 Korean companies running factories abroad have made or prepared to make a U-turn since 2012, according to the Ministry of Trade, Industry and Energy.
Experts say policymakers and politicians should be more active in enhancing business conditions at home by readjusting the taxation scheme, making labor markets more flexible and scrapping regulations.
In this regard, many economists caution that the ongoing debate over a corporate tax hike should take into full account its impact on the economy.
Opposition lawmakers have submitted bills aimed at raising the maximum corporate tax rate from the current 22 percent to 25 percent, saying the measure would increase annual tax revenues by 3 trillion won.
Korea’s maximum corporate tax rate remains lower than the 23 percent average for the 34 member states of the Organization for Economic Cooperation and Development, with the corresponding figures standing at 35 percent for the U.S., 33.3 percent for France and 25.5 percent for Japan.
The government and ruling party lawmakers have opposed raising corporate tax rates, which they say will go against the downward trend worldwide. Since the 2008 global financial crisis, 20 of the 34 OECD members have reduced levies on companies.
The U.K. is poised to cut the rate from the existing 20 percent to 15 percent in an effort to cope with aftershocks from its referendum last month to leave the European Union.
Many economists say increasing corporate taxes amid global competition to reduce them would only lead to exacerbating the hollowing out of the local manufacturing sector.
While prodded by opposition lawmakers to raise corporate taxes during a parliamentary session early this month, Finance Minister Yoo Il-ho expressed worry that the move would also risk diverting foreign capital supposedly to be invested in Korea to other countries.
By Kim Kyung-ho (khkim@heraldcorp.com)