[Interview] KIEP Kim Heung-jong: "World Factory China, Difficult to Find Alternatives"

[Conversation with Jeong Jae-hyung, Economic and Financial Editor; Summary by Reporter Lee Jun-hyung] “There is no place with as integrated a market and as concentrated excellent labor force as China. Vietnam, which has been considered an alternative so far, is also entering an aging society soon.”

Kim Heung-jong, President of the Korea Institute for International Economic Policy (KIEP), said in a recent interview at the Asia Economy building in Jung-gu, Seoul, “Korea’s dependence on China for generic products is high, so there are talks about diversification, but it is not easy. Many intermediate goods are procured from China, and there are not many places that can replace them,” adding, “It is not easy to find alternatives outside China, but generally speaking, putting all eggs in one basket is risky, so risk diversification is the answer, and we need to be more proactive in seeking alternatives.”

President Kim pointed out that Vietnam, which is emerging as a ‘post-China’ alternative, cannot be a sustainable option. Although Vietnam is attracting attention as a global production base replacing China amid the de-China trend, aging could be an obstacle.

- It seems that the U.S. efforts to control China’s advanced industries will only strengthen and not reverse.

▲ It will continue to strengthen. Last October, sanctions were imposed on foreign companies investing in China and companies from U.S. allied countries, preventing equipment from entering China, but a one-year grace period was given. This was to allow time for withdrawal. Since this is not an ultimate solution, China will become self-reliant in the mid to long term. They will struggle during the self-reliance period.

- For general goods produced in China, it’s unclear, but will advanced industries have to withdraw?

▲ The direct effect of sanctions against China caused Korean companies to cancel additional investment plans. Then, will the existing invested facilities operate properly? Since equipment after-sales service is not properly provided, efficiency will decline over time. If it continues to decline, profits will not be made. If profits are not made, problems will arise over time.

- Currently, it seems that U.S. sanctions separate advanced industries and general goods. The U.S. still needs to import general goods because they can be made much cheaper, so they seem to respond separately.

▲ It has to be that way. China also needs a market for generic products. Investments, equipment, and capital goods producing generic products are entering China well. There are few restrictions here, so tacit cooperation is ongoing. Korea’s dependence on China for generic products is too high, so there are talks about diversification, but it is not easy. There is no place like China, both as a market and for procuring intermediate goods. Many intermediate goods are procured from China, and there are not many alternatives.

- Could it shift to Vietnam or ASEAN?

▲ There is no place like China with an integrated market and a concentrated excellent labor force. Investment plans have been announced in Texas, Georgia, Alabama, but there are no people. Biden is calling for everyone to come and announced investment plans, but the biggest problem is the lack of people. The biggest problem in Korean factories in Central and Eastern Europe is also the lack of labor. Indonesia has a large population. Among the four big islands, Sumatra has no population, and Borneo also has no population. Java Island, where Jakarta is located, has the largest population, and all industrial facilities are concentrated there, but can Java itself be an alternative to China? It would be difficult.

- To become a manufacturing base, labor force and population concentration are necessary?

▲ The alternative so far has been Vietnam. Labor productivity is also high. Vietnam has many foreign-invested companies, which account for more than 70% of Vietnam’s total exports. Samsung accounts for about 20%, and Korean companies combined account for 25-30%. Even Vietnam, which is said to have abundant labor, has a nearly saturated mature labor market, and Vietnam itself is entering an aging society. When the population over 65 reaches 7%, it is considered an aging society, and Vietnam is at the 7% threshold. It is not easy to find additional labor. Laos and Cambodia are small countries. Infrastructure is not well developed, so building infrastructure costs a lot. Bangladesh has a population of about 100 million and is promising, but infrastructure is very poor. Electricity, water, ports, roads?all are lacking. Therefore, companies sometimes build dedicated docks. Factories must be built on the coast with docks in front; otherwise, it is impossible. Looking at places like Ulsan, the port is right next to the factory.

- In conclusion, does China still serve as a global production base for generic products?

▲ China’s domestic market has grown tremendously, so operating generic product factories still makes economic sense.

- Regarding supply chain restructuring, how will Korea be affected? Should we see the U.S. Inflation Reduction Act (IRA) benefits in semiconductors and batteries?

▲ China has rapidly advanced, but if isolated due to U.S.-China competition, the basic condition favors us. It depends on how we utilize it, but the Western markets excluding China are opening. Taiwan is similar, but the window of opportunity is opening. In the mid to long term, a U.S.-centered supply chain excluding China is an opportunity for domestic companies. The controversial issue is subsidy payments, but globally subsidies for electric vehicles are decreasing. The U.S. is also reducing them, and they will disappear eventually. China has completely eliminated electric vehicle subsidies. Since the U.S. will also eliminate them, the various issues related to the IRA are short-term phenomena. Korean companies suffer disadvantages in the short term, so efforts are being made to resolve them. Domestic public opinion is very negative in the short term, and related companies are greatly affected, so that is why, but sustainable subsidies are not a mid to long-term matter.

- Japan is confrontational with China, but Korea shows ambiguous attitudes due to high dependence on China. Some say Korea should align closely with the U.S. and the West like Japan to receive technology transfers and so on, while others say Korea should maintain some relations with China due to market issues.

▲ Korea has already established a lot in China. It is not easy to do more in the short term. From an international political and security perspective, it is absolutely necessary to cooperate with the U.S. and jointly maintain peace and security in Northeast Asia. However, economically, Japan is not confrontational with China either. The current discussion is only about advanced industries. Regarding generic products, Japan and China do not think of each other as adversaries. It is necessary to closely observe how the Japanese economy is progressing. It is not that Japan is better at diplomacy than Korea, but Japan has a lot to offer China. Japan has many technologies far superior to Korea’s, and China depends heavily on Japanese companies. That is why they cannot speak carelessly.

- Is Korea’s technology insufficient to deal with China like Japan?

▲ Some parts are well done, but overall volume makes it difficult. Germany and Japan can exert influence in the Chinese market. Germany is one of the few countries in the world where companies earn a lot of money overseas. Such countries are not easily challenged by China. They also need to receive technology transfers and depend heavily on the economy and certain products.

- What is Korea’s level?

▲ Not at that level. Korea has many companies that can produce generic products with high quality.

- India has a dense population and strong will to foster manufacturing. Is it difficult to replace China?

▲ There are many pre-modern problems, and sometimes there is discord between state and federal governments. Still, India is a strategically important country. This year marks the 50th anniversary of Korea-India relations, and various commemorations will take place. India is also the host country of the Shanghai Cooperation Organization (SCO, a China-led multilateral security cooperation organization) this year. It is also the G20 host country. Under U.S.-China strategic competition and Indo-Pacific strategy, India’s status is very important and its strategic value has greatly increased. India is courted by both sides, which is advantageous. It also holds an important position in the BRICS summit. We may not know well, but the BRICS summit is held annually. Last year, it was held on a large scale in June. The Indian Prime Minister was very busy last year. Right after the BRICS summit, he was invited to the G7 and went to Germany. Politically, India is stable, and Prime Minister Modi is popular.

- What are the problems?

▲ When I met a senior Indian official in January this year, I asked about the failure of POSCO’s investment due to inconsistent policies between federal and state governments, and he said, “Then invest in states where the state and federal governments are from the same party.” There are risks, but it seems to be improving. The problem with India and Indonesia when investing is the uncertainty of land ownership. When a large company buys land, there should be one owner, but multiple people claim ownership. Even after compensation, someone appears claiming, “This was our ancestor’s land 200 years ago,” and claims ownership. This cannot be ignored and is accepted in courts. Compensation has been paid multiple times. This is not only for foreign companies but also for their own railway construction. Building a railway is difficult. Indonesia’s Kalimantan has open-pit coal mines but cannot build railways because many people appear asking for money. This is a problem in India and Indonesia. The central government needs strong control authority, but it does not have it.

- The Korean government is trying to restore diplomacy with Japan, and ultimately, should security cooperation be under the Korea-U.S.-Japan framework?

▲ Relations with Japan are important in many ways. Since progress is blocked by historical issues, efforts to restore bilateral relations should continue, and multilateral relations should be strengthened. Frameworks like IPEF (Indo-Pacific Economic Framework), CPTPP (Comprehensive and Progressive Agreement for Trans-Pacific Partnership), and although currently inactive, Korea-China-Japan FTA and other multilateral cooperation channels should be actively used. Cooperation with Japan should be pursued while coordinating efforts. Korea’s participation in multilateral cooperation channels is much lower than Japan’s. This includes economic and non-economic aspects. Korea is not part of CPTPP. Japan participates with the U.S. in various digital partnership agreements, but Korea has barely concluded the Korea-Singapore DEPA (Digital Economy Partnership Agreement). Korea is not part of Quad or similar groups. Economically and in security, Korea depends more on foreign trade and economic cooperation than Japan, but exposure to multilateral cooperation systems is lower.

- Korea should learn from Japan’s approach. Japan also cooperates extensively with small countries like Estonia.

▲ NATO invited Korea to its summit last year. Security cooperation at the NATO level is important, as is cooperation among countries sharing values of freedom and democracy. Cooperation with distant countries is also important, not just multilateral cooperation. I have continuously advocated expanding contact with Europe. This is one of the important ways to strengthen Korea’s leverage. Resolving bilateral issues with Japan would be good, but if unresolved, maintaining relations with Japan as is and strengthening relations multilayeredly with countries like Europe and Australia within the same group would be helpful.

- Is Korea weak in relations with Europe and Australia?

▲ Korea is negotiating minerals with Australia, and this year marks the 60th anniversary of Korea-Canada relations. KIEP will hold a Korea-Canada forum, and relations need to be further strengthened. Cooperation should be enhanced in economic security aspects.

- Cooperation with Middle Eastern countries like Saudi Arabia and UAE is also being strengthened. What should be cautious or expected?

▲ When cooperating with those countries, we must accurately understand our position. We are not a labor-supplying country. Saudi Arabia and Gulf countries outsource everything. Even the world’s tallest buildings are built by foreign companies. European, Japanese, and American companies have roles, Korean companies have roles, and populous neighboring countries like India have roles. We need to clearly position what we can and should do. We must understand what they demand from us. Currently, it is nuclear power and defense industries. When undertaking large projects like building NEOM City, we need to consider our position carefully. Currently, nuclear power and defense cooperation have been identified. In the past, it was desalination facilities. They are very important partners. Therefore, when oil prices surge, the impact on Korea is less than before. Over the past 30-50 years, the pattern of economic cooperation between Korea and the region has changed continuously. It started with construction workers earning money, then building desalination facilities and roads, and now nuclear power and defense industries. It keeps changing.

- The remark about finding the right position is impressive.

▲ We must continuously find new positioning. Europe is very strong in engineering. It is not easy to penetrate design sectors. We are not a labor-exporting country; we must move upward, but it is not easy. We have talked about entering engineering for 20 years, but it has not succeeded. Nevertheless, we must break through nuclear power and defense industries. We do not do all nuclear power ourselves. Some technology is American, and ultimately, within such comprehensive projects, we need to find our exact position. A clear example is last year’s major nuclear power project in Egypt, where Russia won the contract and subcontracted part to Korea. Why? Because it had to be that way. Korea is a non-friendly country to Russia, but Russia had to subcontract to Korea.