East Asian Experiencesome notes Efficient resource allocation 1.

Relatively free labour markets that allowed free mobility and avoided creation of small, high-wage elites 2. Capital market controls fre uent !. "irected credit to private sector#moderate interest subsidies but freedom to assess creditworthiness stayed with the financial institutions. $trong monitoring mechanisms in place Policies that promoted savings in EA 1. %ublic savings 2. &enerally low '%(s due to good regulatory oversight by central banks )ma*or e+ceptions ,ndonesia in lates 1-./s, 0orea in early 1-./s, and 1alaysia2s 3ank 3umiputra in the 1-4/s5 !. (dopted some international capital ade uacy ratios to avoid banks taking on too much risk 6. $ome central banks legislated heavy collateral which usually came in the form of real estate. 3ut that also e+posed the banks too much to the real estate sector )and perhaps caused the property bubble5. 7. Coping with financial distress#governments 8. %rotection of banks from competition but it is not clear whether that helped the miracle 4. Regulating spreads )between deposit and lending rates5 .. 9orced savings : mandatory pension plans, bans on consumption loans, etc etc but the evidence is not clear whether all this actually contributed to 3ut most important prudential financial regulation and signaling of macroeconomic stability and security boosted confidence and enhanced savings and investment )some evidence on reverse causality between savings and investment5. Policies to increase the attractiveness of investment 15 ;ide range of ta+ policies< a5 =a+ rebates to encourage e+ports b5 ,nvestment credits and ta+ holidays to promote heavy and chemical industries, and c5 >alue-added ta+ )0orea first ?%(E to adopt this5 d5 0orea and =aiwan used comple+ ta+ codes to favor investment and to direct the pattern of their development e5 ?ong 0ong has simple and largely neutral ta+ structure with low corporate ta+es unlike 0orea and =aiwan with differentiated ta+ structures f5 $ingapore uses ta+es to promote industriali@ation but focus on providing special incentives for foreign investors and promoting savings

g5 ,ndonesia and 1alaysia relied heavily on oil revenues and hence didn2t pay much attention to ta+ regime h5 =hailand has tried using these but has not been much successful due to weak administrative structure. =hailand has most comple+ ta+ system#a bewildering array of ta+es i5 "evelopment banks ,nconclusive evidence on whether shifting ta+ regime in 0orea contributed more than !-7 percent of overall &"% which is really low. $o a note of caution . . . Features of labor policy 15 ?igh priority to human capital accumulation and early demographic transition helped managed labour supply side 25 Aewisian effect in early development period and rapid rise in real wages post 1-4/s !5 3ut minimal interventions in the labour market. =his avoided segmentation and improved mobility and compressed wage gaps )for e+ample, manufacturing wages of unskilled labor were only about 2/ percent higher than agricultural wages5 65 Aimited growth of public employment 75 ;age setting practices 85 Repression of labour unions and organi@ed bargaining Features of trade and industrial policy (combination of export push and import protection) Why should governments interfere in international market? 15 Capital market imperfections and economies of scale#sepcially true of large interdependent pro*ects re uiring coordination in downstream industries 25 $trategic negotiations#to e+tract more surplus from international markets in their favour !5 %ecuniary e+ternalities )or e+ternalities overtime5 65 Aearning related e+ternalities )helping firms ac uire knowledge from international markets in the form of technologies, ideas, etc5 What did most East Asian nations do? 1ost pursued a protectionist policy and fairly early moved to e+port orientation and free trade. 15 %rotection to capital intensive sector )such as machinery5 a5 Bsed both tariff and non-tariff barriers 25 (ggressively promoted e+ports a5 Bsed e+ports targets and rebates !5 1aintained outward orientation in technology ac uisition but very selective

65 Bndervalued e+change rates to assist e+porters a5 =aiwan ran current account surplus running upto 17 percent or so Features of financial markets and financial sector policy 9inancial markets typically work under more information problems than any other market. =hat is why most governments are reluctant to rely only on private capital markets. 15 East (sian governments emphasi@ed safety of banks through regulations that monitored and enhanced solvency of banks and measures that avoided financial disruptions 25 E+ercised direct control on a high proportion of savings deposits )as they were either in public banks or postal savings, etc5 !5 Aimited banking spreads to enlarge investment with a given level of savings 65 E+port credit schemes 75 Bsed directed credit to channel funds in desired sectors but leaving the choice of borrowers to banks )significant chance of market failure5. 0ept subsidies on directed credit under check =able< Real interest rates on directed credit Country ,ndonesia 1-.1--! Capan 1-71-8/ 0orea 1-4/-./ )industry5 0orea 1-4/-./ )e+ports5 =aiwan 1-./-.- )industry5 =aiwan 1-.6-.7 )e+ports5 3ra@il 1-.4 Colombia 1-.1-.4 ,ndia 1--2 1e+ico 1-.4-.. =urkey 1-.1 Real interest rate on "irected credit 'ondirected credit -1.4#6./ -/.7#!./ !.1#6.8 --2.4 2.-8.4 2.1.-#!.6.8 1.7 6.8 -2!.7 1.7 -2.7-6./ -26./ -16./ 1!.7 4./ 8./ 1!./

Role of business groups $ogo $hosha and Chaebol story )(ppendi+ 15

Flying geese paradigm

GRIPS Development Forum > Diversifying PRSP > Ch.4 Vietnam's PRSP !perien"e #Strong $%nership an& Gro%th#$rientation

Flying Geese 'o&el The phase "flying geese pattern of development" was coined originally by Kaname Akamatsu in 1930s articles in apanese! and presented to world academia after the "orld "ar ## in 19$1 and 19$% articles in &nglish' The flying geese ()*+ model intends to e,plain the catching-up process of industriali.ation of latecomer economies from the following three aspects/ 1' #ntra-industry aspect/ product development within a particular developing country! with a single industry growing over three time-series curves! i'e'! import (0+! production (1+! and e,port (&+' %' #nter-industry aspect/ se2uential appearance and development of industries in a particular developing country! with industries being diversified and upgraded from consumer goods to capital goods and3or from simple to more sophisticated products' 3' #nternational aspect/ subse2uent relocation process of industries from advanced to developing countries during the latter4s catching-up process' The late 5aburo 6kita (1917-1993+! well-known apanese economist and a foreign minister in the 1980s! greatly contributed to introducing the )* pattern of development to the wider audiences including the political and business world' Thus! the regional transmission of )* industriali.ation! driven by the catching-up process through diversification3rationali.ation of industries! has become famous as an engine of Asian economic growth' (he Flying Geese Pattern of Development Dr. Sa)ro $*ita's Presentation +the 4th Pa"ifi" "onomi" Cooperation Coun"il Conferen"e, Seoul, -./01 The division of labor in the 1acific region has aptly been called the )* pattern of development''''' Traditionally! there have been two patterns or types of international division of labor/ the vertical division of labor such as prevailed in the 19th century to define relations between the industriali.ed country and the resource-supplying country or between the su.erain and the colony9 and the hori.ontal division of labor typified by the &&: with its trade in manufactures among industriali.ed countries! often among countries at the same stage of development and sharing a common culture' ;y contrast with both types! the )* pattern represents a special kind of dynamism' #n the 1acific region! for e,ample the <nited 5tates developed first as the lead country' ;eginning in the late 19th century! apan began to play catch-up development in the nondurable consumer goods! durable consumer goods! and capital goods sectors in that order' =ow the Asian =#:s and

the A5&A= countries are following in apan4s footsteps''' ;ecause there is such great variety in the Asian nations4 stages of development! natural resource endowments! and cultural! religious! and historical heritages! economic integration on the &&: model is clearly out of the 2uestion' >et it is precisely this diversity that works to facilitate the )* pattern of shared development as each is able to take advantage of its distinctiveness to develop with a supportive division of labor'
5ource/ 5abro 6kita! "5pecial presentation/ prospect of 1acific economies!" Korea ?evelopment #nstitute' Pacific cooperation: issues and opportunities (pp'18-%9+' @eport of the )ourth 1acific &conomic :ooperation :onference! 5eoul! Korea! April %9 -0ay 1! 198A! p'%1'

Referen"es
Akamatsu! Kaname (19$1+/ A Theory of <nbalanced *rowth in the "orld &conomy' #n/ Weltwirtschaftliches Archiv! Bamburg! no'8$! pp'19$-%1C' Akamatsu! Kaname (19$%+/ A Bistorical 1attern of &conomic *rowth in ?eveloping :ountries' #n/ The Developing Economies! Tokyo! 1reliminary #ssue =o'1! pp'3-%A' KoDima! Kiyoshi (%000+/ The 4flying geese4 model of Asian economic development/ origin! theoretical e,tensions! and regional policy implications' #n ournal of Asian &conomics 11! pp'3CA-701' 5chroeppel! :hristian and 0ariko =akaDima (%00%+/ The :hanging #nterpretation of the )lying *eese 0odel of &conomic ?evelopment' final version of uly %! %00%' #n forthcoming ! *erman #nstitute for apanese 5tudies/ apanstudien! Eol' 17' FThis note was written by *@#15 ?evelopment )orum! based on Kiyoshi KoDima (%000+ and :hristian 5chroeppel and 0ariko =akaDima (%00%+'

Appendix ! "he sogo shosha story C(%('Ds sogo shoshas, or general trading companies, have grown along with the development of the Capanese economy into global corporationDs bridging cultures and contributing in innumerable ways to the world economy. ,nvolved worldwide in virtually every kind of commercial transaction, reaching far beyond trade itself into resource development, finance and the organi@ation of business and industrial pro*ects, they offer clients an unparalleled range of information, e+pertise and contacts. =he role of trade intermediary is the core of sogo shosha business activity. (bout 77 percent of Capanhs e+ports and over 87 percent of her imports pass through the sogo shoshas, which also channel an increasing volume of offshore trade. =heir global operating scale permits risk absorption, market e+pansion and coordination of suppliers and buyers for ma+imum mutual advantage. =he total sales of the sogo shoshas in fiscal 1-.2 reched E!82.8 billion, an amount e uivalent to more than a third of CapanDs gross national product. =he sogo shoshasD involvement in offshore trade in particular has risen precipitously in the past decade< from E2.61 billion )6.. percent of total transactions5 for the nine largest sogo shoshas in 1-4/ to E6-.2/ billion )16.2 percent5 in 1-.2. "omestic business business now comprises about 61 percent of their total transaction. E+ports account for about 21 percent, imports 26 percent. ;orldwide 'etworks. "uring the 1-8/s and 1-4/s, the sogo shoshasD leadership role in 0apanDs e+port drive and her corresponding effort to secure stable supplies of industrial raw materials led them to move beyond a straight-forward trading role into large-scale involvement in a wealth of business fields aimed at the creation and support of long-term trading activities. =his demanded the establishment of e+tensive overseas office networks, backed by a widening international circle of subsidiaries, affiliate companies and *oint ventures for specific business undertakings. %articularly in the Bnited $tates the $ogo shoshas have cultivated a strong presence, en*oying wide relations with (merican business through an array of affiliates. (ppro+imately 1/ percent of (merican e+ports are handled by sogo shoshas. =he overseas affiliates of the sogo shoshas have consistently concentrated more on e+port than import trade, contribuitng significantly to the improvement of *apanhs trade balance with the Bnited $tates and many other countries. 9or instance, B.$. affiliates of the nine largest sogo shoshas conducted trade totaling E22.4 billion and import trade totaling E18.7 billion in 1-.1, thus contributing E8.2 billion to (mericaDs trade balance. =he same sort of proportion holds if we look at their trade with Capan alone. %romoting 'ew =rade. =he sogo shoshas have been heading import promotion missions to the Bnited $tates. =heir unparalleled understanding of Capanese

business, market conditions and distribution channels makes them the ideal partners of firms wishing to sell their products in Capan. many of those who have tried to go it on their own have met with failure because of the peculiarities of the Capanese business world. (nd yet, operating typically at profit ratios of 1.4 to 2 percent of sales, the sogo shoshas are able to offer their services at remarkably low cost. ;ith changes in the composition of world trade, the sogo shoshas are e+panding their activities in business areas outside their tradiational focus on high-volume, low-commission supply and marketing of raw materials, intermediate products and capitsl goods. =his means in particular growing involvement in high tech and service industries, often in the form of *oint ventrues with foreign firms. ,n high tech imports to Capan, sogo shoshas may serve as sole agents or assist a foreign firm or procure machinery abroad according to customersD specifications, or serves as intermediarey for technical agreements. (nother type of arrangement is the *oint establishement of retailing chains and their supply networks. 9or instance, sogo shoshas have been instrumental in the success of 0entucky 9ried Chicken and "airy Fueen chains. =echnology E+change. $o go shoshas make imortant contributions to the flow of technology and information. 9or e+ample, efforts to create longterm demand and supply in natural resource development led to their involvement as overall organi@ers, coordinators, palnners and investors in comple+ multilateral tradedevelopment pro*ects that involve companies in a number of industriali@ed nations and make significant contributions to local employment. 9inance and ,nvestment. =he sogo shoshas success in the international arena comes from their vast scale of operation, enabling them to pool shipments, seek out the best prices, guarantee stable supplies and markets and absorb risk. ,t also comes from their vas capabilities in the financial area. Gften more informed than commercial banks and thus better able to assess risk, they act fre uently as middlemen between the banks and their corporate clients in teh supply of loans, loan guarantees, e uity investment and venture capital. =hey hedge foreign e+change risk through contracts denominated in the ma*or international currencies, enabling them to offer stable forward e+change rates, often up to one year, generally not available on foreign e+change markets #haebols ,n the 1--/s, probably no other firms in emerging economies have drawn more attention than 0orean big business groups, or Hchaebols.I ;hen 0orea emerged as a new industrial power, boasting the 11th largest economy in the world in 1--8, chaebols were praised as drivers of this unprecedented, rapid economic growth.

,n recent years, the chaebols2 dramatic international e+pansion often made headlines in business maga@ines and newspapers all over the world. =hanks to the chaebols2 e+plosive foreign investments, 0orea numbered among the largest foreign investors in many countries, including the Bnited 0ingdom. ,mpressed by this rapid e+pansion in overseas markets, particularly in high-tech industries such as semiconductors, 3usiness ;eek )1--7a5 featured a cover story and analy@ing the chaebols2 Hsuccess formula.I 1oreover, emerging or transition economies such as China and Russia attempted to adopt a 0orean economic development model based on chaebols, encouraging their own large firms to become chaebol-like diversified business groups )3usiness ;eek, 1--7bJ Economist, 1--45. $ome scholars supported such efforts to imitate 0orean-style big business groups, praising chaebols as a new organi@ational form. Gthers lauded the chaebol as a legendary success story, some arguing that they were more appropriate than focused firms for late industriali@ing economies. ;hat a dramatic turnaroundK ,n the wake of the financial crisis that swept East (sia since 1--4, the 0orean economy faltered badly and top-!/ chaebols such as 0ia, ?anbo, ?alla, $ammi, and ?aetae went bankrupt. E+cept for the top-6 chaebols -- $amsung, ?yundai, "aewoo, and A&, many of the top-!/ chaebols were in serious financial trouble and some are e+pected to fail in the near future. $uddenly, chaebols have become the main culprit of the 0orean economic crisis )Economist, 1--.5. (t the center of such criticisms is the chaebols2 diversified e+pansion. Critics argue that the HirrationalI diversification strategies of the chaebols often failed to consider economic efficiency and resulted in e+cessive, debt-fueled e+pansion unsustainable in economic downturns )3usiness ;eek, 1--.5. ;hat went wrong with the chaebols2 e+pansionL ;hy did chaebols diversify so aggressivelyL "id they really place only secondary priority on economic efficiency in their diversification decisionsL ,f so, what factors played a primary role in the chaebols2 diversification strategiesL 9ocusing on the evolution of chaebol diversification strategies, we seek to answer these uestions by e+amining both economic and institutional forces underlying chaebol diversification decisions. "iversification decisions are assumed traditionally to be driven solely by economic motives - seeking profit or efficiency. =he purpose of this study is to demonstrate that the formation of business groups through diversified e+pansion is a process which is affected not only by efficiencyoriented strategic considerations of e+ploiting e+isting resources, but also nonefficiency- based institutional factors, such as institutional isomorphism and inter-firm rivalry. =o develop a comprehensive model of the causes of the chaebols2 diversified e+pansion, we rely on two alternative theoretical frameworks< a resource-based view of the firm and institutional theory. ;e describe first the historical patterns of the chaebols2 diversified e+pansion over the past four decades. =hen, using a series of logit models, we e+amine empirically both the resource-based and institutional factors influencing a chaebol2s decision to change diversification strategies over time. 9inally, based on

both the historical and statistical analysis, we discuss the rise and fall of chaebols and draw lessons in corporate strategy for firms in emerging economies. $istory of #haebols% &iversified Expansion Chaebols are defined as diversified, family-owned business groups )Cho, 1--/5. (ccording to the 9air =rade Commission, in 1--8 the top-thirty chaebols accounted for 6/M of 0orea2s &'%. =he top-7 chaebols are especially dominant, accounting for 7.M of the total assets of the top-thirty chaebols. $ince 1-82, when the military government launched the first economic development plan, &'% growth rate and e+port volume became the most important criteria in the evaluating successful economic development. =o sustain rapid growth, the government pursued industrial policies to select strategic industries for import substitution and e+port promotion. Bnder the government2s initiative, some 0orean firms diversified aggressively into these strategic industries to take advantage of preferential credit allocations, ta+ benefits, and government protection from foreign imports and investments )$teers, $hin, and Bngson, 1-.-5. =hese strategic industries were often unrelated to e+isting businesses of these firms. ?owever, given that real effective interest rates of policy loans and e+port financing were usually negative in the 1-8/s and 1-4/s, gaining access to policy loans through diversified entry into government designated strategic industries as well as through increasing e+port volume became a primary goal of 0orean firms. 'ot surprisingly, chaebols relied heavily on banks for financing their diversified e+pansion. ,n 1--4, the top-!/ chaebols averaged appro+imately 7.2 times more debt than e uity, according to the 9air =rade Commission. 9irms that did not enter strategic industries often lost their competitive edge to diversified competitors or those that gained superior access to preferential loans. 9urthermore, a multimarket presence allowed chaebols to leverage their power in individual markets. ,n this environment, chaebols began to place top priority on growth rather than efficiency or profitability and pursued product diversification and overseas e+pansion aggressively. ,n 1--7, the average return on sales )RG$5 of the top-7/ chaebol was merely 2.7M and the number dropped even further, to /.2M, in 1--8, according to the 3ank $upervisory 3oard. =he economic si@e and concentration of chaebols have been both a driving force and a conse uence of 0orea2s government-led economic development policies. (s noted by (msden and ?ikino )1--65, as well as by Bngson and colleagues )1--45, a principal characteristic of the ma*or chaebols is a strong entrepreneurial spirit that encourages risk taking on a grand scale. =his Hbet-your-companyI mentality toward diversification was solidified by the belief that the government would protect and bail out new ventures, and even the chaebol itself, should the venture fail.

3ecause the combined revenues of affiliated firms were viewed as a measure of the power and success of chaebols, as well as a guarantee for potential government bailout, chaebols have engaged in intense multi-market competition at the business group level )(msden, 1--45. =o maintain a competitive balance with their rivals in such inter-group competition, the chaebols demonstrated herd behavior in market entry patterns. Bntil the 1-4/s, the government pursued strong industrial policies. =he ma*or chaebol responded to government initiatives in terms of the direction and timing of diversified entries. ?owever, even in the 1-./s, when the 0orean government seldom announced guidelines for supporting a specific industry, the chaebols, particularly the top-four, showed strikingly similar diversification patterns. $ince the 1-./s, the ma*or chaebols have been eager to diversify into Hhigh-techI industries. =he top-four chaebols gained a foothold in virtually every ma*or high-tech area that 0orean firms entered. =he top-four chaebols2 entry into the semiconductor industry e+emplifies herd behavior. ,n 1-.!, $amsung made investments in wafer fabrication of "R(1s. &oldstar )later renamed A&5, $amsungDs rival in the consumer electronics business, followed suit the same year. ,nterestingly enough, ?yundai, which previously had not been involved in the electronics business, also announced a ma*or investment in the "R(1 business that year. ,n 1-.8, "aewoo, too, entered the semiconductor business by ac uiring Nymos. ,n the 1--/s, the chaebols continued to demonstrate herd behavior and intense rivalry in their entries into the mobile telecommunications business, as well as in the location decisions for their international e+pansion. ,n 1--6, in response to erosion in the competitive advantage of chaebols in the global market, the 0orean government embarked upon a new policy initiative for globali@ation. %romoted by the government, chaebols e+panded their overseas production networks dramatically , the 1--/s. =o overcome declining price competitiveness in low-to-mid-tech industries chaebols set up production bases in low-wage locations. =o gain access to technological resources, chaebols made huge investments in developed countries in technology-intensive industries. ?owever, financial and administrative burdens from rapid international e+pansion aggravated efficiency problems that had originated from aggressive domestic e+pansion. ;hat lessons do the rise and fall of chaebols provide top managers and policy makers in emerging economiesL ,n advanced ;estern countries, highly diversified firms performed poorly and thus, conglomerates were often portrayed as dinosaurs. ?owever, (msden )1--45 and 0hanna and %alepu )1--45 suggest that diversified business groups such as chaebols are more appropriate than focused firms for emerging economies because these business groups can perform the functions of institutions such as venture capital firms that are often missing in emerging economies. =hey argue that business groups act as intermediaries between individual entrepreneurs and imperfect markets for reali@ing economies of scale and scope that are otherwise unavailable in emerging economies.

(s these scholars point out, since the institutional conte+t of emerging economies is vastly different from that of advanced economies, companies in these markets may need to formulate diversification-oriented corporate strategies to achieve economies of scope and scale at an early developmental stage. ?owever, as these diversified firms in emerging economies become ma*or players in the global market and move to knowledge-intensive industries, they are often forced to compete with the same competitive logic as first movers in developed countries have adopted< focus on core competencies based on efficiency, learning, and fle+ibility rather than sales growth. ,f a firm makes a strategic decision based solely on economic rationality, then the change in strategic orientation and core capability re uired for survival in the new competitive environment will be uick and smooth. ?owever, inertial forces at the individual, firm, and social levels often inhibit radical changes in a firm2s behavior. =he more successful an e+isting strategy was in the past, the more difficult it is to change the strategy when necessary. ,n a nonrational world, success often breeds failure due to this inertia or resistance to change. =he dramatic and even tragic decline of chaebols e+emplifies this difficult road to change and the crucial role of institutional factors in strategic decisions. ,n the late 1-./s and early 1--/s when chaebols en*oyed high e+port growth due to the sharp yen appreciation and worldwide "R(1 shortages, chaebols could have transformed themselves smoothly into more focused and efficient firms. ?owever, in 0orea, efforts to divest e+isting businesses often faced strong internal resistance as well as e+ternal legitimacy problems. (s a result, highly diversified chaebols often held onto their e+isting strategies, even when e+cessive diversification led to managerial inefficiency and a lack of strategic focus. ,n the 1--/s, the government that previously had nurtured chaebols attempted to curb their e+cessive diversification and now tried to transform them into focused business groups. =he chaebols, however, no longer complied with the government2s initiative to speciali@e and, on the contrary, continued to pursue diversification. $amsung2s entry into the already overcrowded automobile industry was a vivid representative e+ample of the chaebols2 continued obsession with growth at the e+pense of efficiency. 'ot surprisingly, in the current economic crisis, $amsung2s automobile business is in serious trouble. =he sad news is that continued cross subsidi@ation from the highly competitive electronics business to the automobile business may even hurt $amsung2s competitiveness in its core electronics business. =he chaebols stand at a crossroads. =he only way to survive is to place top priority on efficiency by divesting and restructuring highly diversified businesses. =he history of the rise and fall of 0orean chaebols provides an important lesson to both policymakers and top managers in emerging economies. "iversified e+pansion of business groups can be a shortcut in rapid industriali@ation, but economic efficiency must be emphasi@ed in order to survive the wave of global competition.

,nstitutional forces shaped in the history of a country2s economic development may hinder transformation of highly diversified business groups into the more focused, efficient competitors that this new era of global competition demands.