By Ahn Choong-young

In the increasingly globalizing world economy, rising cross-border investment is a crucial feature of open economies along with cross-border free trade. Korea has long adopted a trade-oriented economic development strategy, and aims to achieve $1 trillion in trade for 2011.

If successful, Korea will become only the ninth nation to achieve such a milestone. In light of this ambition, where stands the status of Korea’s in- and outflows of foreign direct investment (FDI)?

The Asian financial crisis of 1997-1998 provided new momentum for Korea to lift restrictions on portfolio investment by foreigners and open her markets to foreign direct investment.

The primary force behind this momentum was up to that time the largest-ever financial bailout package from the International Monetary Fund (IMF).

With the IMF funds accepted as a last resort against a possible moratorium on Korea’s mounting foreign debt and the accompanying massive service burden, the IMF’s conditions for the bailout mandated that Korea open her capital market.

In the years since, Korea has implemented a series of liberalization measures in regards to her portfolio market, with just one result being that the foreign-owned share of the country’s bourse at one time reached 45 percent of total stock market capitalization.

Despite Korea’s proactive FDI inducement policy, however, the actual amount of recorded inbound foreign direct investment has proven disappointing compared to the country’s potential to induce this invaluable aspect of the national economic composition.

Although the United Nations Conference on Trade and Development ranked Korea 16th on its 2008 FDI inducement potential index, taking into consideration such factors as GDP, trade volume, fixed line and mobile phone subscribers and country risk among other factors, Korea’s inward FDI index was rated 126th among the 141 countries surveyed.

Directly after the Asian financial crisis, FDI into Korea rose sharply, attributable to foreign-led mergers and acquisitions of near-bankrupt Korean companies.

In the past five years, inbound foreign direct investment has continued in a downward direction while in contrast, outbound foreign investment by Korean companies has shot upward as they actively established a business presence in both developed and developing countries.

As a consequence, Korea currently exhibits a serious imbalance between her outbound and inbound FDI totals. To illustrate, Korea’s actual outbound FDI recorded $23 billion in 2010 whereas inbound FDI (calculated on an arrival basis) totaled a mere $5.3 billion.

In order to make Korea a Northeast Asia business hub, Korea had designated a total of six free economic zones in 2003 but their quality FDI attraction has also been quite less than expected.

The scale of this gap has been compounded by the recent global financial crisis as economically burdened advanced economies witnessed a significant contraction in their cross-border investment activities.

Against this backdrop, it is very clear that Korea needs to renew her efforts to increase inbound foreign investment, which will in turn generate a positive multi-faceted impact on the domestic economy.

Korea needs to make special efforts to attract multinational firms, which can produce synergy effects with local firms in upgrading the value-added chains of Korean economy and R&D capabilities in search for a new engine of growth in the areas of “green industry,” bio-pharmaceutical industries, fashion and tourism industries, and other knowledge industries.

Despite the fact that Korea’s potential growth rate has dwindled from roughly 8 percent until the early 1990s to the mid-3 percent level due to sharply declining labor and capital stocks and total factor productivity, the country recovered from the current global financial crisis faster than other OECD economies.

That said, Korea still has serious youth unemployment issues as the country struggles to deal with nearly 1 million young job seekers.

If Korea can succeed in inducing FDI not only from advanced economies but also from those deemed as “emerging” like China, India, and Brazil to the extent of the country’s outbound investment performance, the country will surely see a number of positive outcomes ― job creation, transfer of new technology and managerial practices, a balanced capital account and a more globalized outlook for the Korean workforce. The results will thrust Korea more closely toward her goal of becoming a Northeast Asian business hub, thus encompassing China, Japan, and the Russian Far East with positive linkages both economically as well as in regard to security.

Ahn Choong-young is Distinguished Professor of Chung-Ang University and KOTRA’s Foreign Investment Ombudsman