Canada and South Korea must step up if free-trade agreement is to flourish

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Glen Hodgson is senior fellow at the Conference Board of Canada.

The completion of the Comprehensive Economic and Trade Agreement (CETA) with the European Union has captured significant public attention, but Canada also has a recent free-trade agreement (FTA) with South Korea. The South Korean market should be of interest to Canadian exporters and investors. What's the potential for that deal to create benefits in both countries?

The South Korean market should be more attractive to Canadian firms, particularly in the face of the apparent end of the Trans-Pacific Partnership. Although South Korea's growth potential is waning, it still has a stronger growth outlook than many others. Consumer and business purchasing power is high. But both sides will have to do things differently if the FTA is to bear fruit.

I recently had a chance to visit South Korea (formally known as the Republic of Korea) for the first time in 30 years, as a speaker at the annual Canada-Korea Forum. Much has changed, largely for the better. Seoul has grown into an impressive, modern Asian city. South Korea has had a spectacular economic run over four decades, all while living in a very complicated neighbourhood, right beside an unpredictable regime in North Korea, and with ambitious competitors China and Japan on either side.

South Korea's strong economic growth has been built on a world-class education system and on the implementation of leading practices in manufacturing. The country's products have become recognized global brands in vehicles, home appliances, electronics, communications technology and chemicals. South Korean auto-product quality has steadily improved and its vehicles now compete for global market share with similar products from Japan, North America and Europe.

South Korean industry is based principally on large conglomerates (or chaebols) that have steadily moved up the manufacturing value chain in to products of higher quality and price. But South Korean economic growth has faded since 2012. It faces aging demographics, slipping growth potential, heavy dependence on manufacturing exports and corporate vulnerabilities. The recent policy response has been to use fiscal and monetary policy to underpin short-term growth and avoid dealing with these structural issues.

A series of recent events should be causing a rethinking of South Korean economic strategy. The consensus economic growth forecast for 2017 is down to 2.5 per cent or lower, making South Korea look more like an aging industrial country than an Asian tiger. The auto sector was hit by prolonged strikes in mid-2016, which raised costs and hurt sales. Auto sales have actually fallen in 2016, notably in emerging markets. Slower growth in China is an important factor in the auto-sales slowdown.

In the consumer-goods market, the recall of Galaxy7 is a slap in the face for Samsung. Most analysts believe the company will recover, although an activist hedge fund investor is demanding increased dividends that would squeeze its available cash position. Chinese tourism growth in South Korea is now being redirected toward other places such as the Philippines. Part of the reason for the shift in tourism traffic is Chinese regional foreign policy (the recent decision to install U.S. missiles in South Korea as a deterrent to the North), but it is also reflects a warming of China-Philippines relations.

On top of it all, South Korea is facing political instability, with the word impeachment being used toward an elected president who has lost public trust.

Is the weakening in South Korea's 2017 growth outlook a short-term stumble, or a longer-term plateau? It's probably too early to say definitively. However, it seems pretty clear that South Korea will need to shift from relying heavily on manufacturing exports toward greater business and policy innovation, and the creation of new services and business approaches.

Canada's exports to South Korea are modest at about $4-billion annually, with a large bilateral trade deficit. Many Canadian exports are end-sales to South Korean consumers. Diverse high-quality items, such as Canadian food products, educational services and entertainment, should all have good growth potential.

Perhaps the key success factor will be for South Korea to embrace more true openness to Canadian imports and investment, and for Canada to pursue the opportunities aggressively. Specifically, improving Canadian firms' access to the value chains of South Korean business conglomerates, as suppliers of intermediate goods and services could be an area of focus for Canada's trade development and promotion efforts in South Korea. Achieving this objective will require an enhanced commitment to South Korean trade development from both the Canadian government and the private sector.