Chaebols and Financial Services in Korea
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Chaebols and Financial Services in Korea

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Questions and Answers

What type of innovation do Coordinated Market Economies (CMEs) favor?

  • Radical innovation
  • Incremental innovation (correct)
  • Disruptive innovation
  • No specific type

    • Liberal Market Economies (LMEs) prefer strict competition enforcement.

    False

    What is a major benefit of business groups as outlined in the content?

    Lower transaction costs for affiliated firms

    Business groups can act as a ___________ for their members.

    <p>quasi-internal capital market</p> Signup and view all the answers

    Match the following aspects of business groups to their effects:

    <p>Lower transaction costs = Value creating Concentrated corporate control = Value destroying Mutual insurance = Value creating Monopoly power = Value destroying</p> Signup and view all the answers

    Which of the following describes a characteristic of business groups that is considered value destroying?

    <p>They facilitate moral hazard and inefficient investment.</p> Signup and view all the answers

    Business groups help acquire scarce resources in factor markets.

    <p>True</p> Signup and view all the answers

    What do strict hiring and firing restrictions in social protection imply for firms?

    <p>Investment in firm-specific skills</p> Signup and view all the answers

    What is one of the most prominent roles of chaebols' financial institutions?

    <p>To acquire and apply discounts on corporate promissory notes</p> Signup and view all the answers

    Chaebols' ownership of financial institutions leads to efficient capital allocation.

    <p>False</p> Signup and view all the answers

    What are two additional important roles of chaebols' financial institutions, besides supplying capital?

    <p>Holding companies and portfolio managers</p> Signup and view all the answers

    Chaebols tend to have high ________ ratios due to their reliance on debt financing.

    <p>debt-equity</p> Signup and view all the answers

    Why did chaebols struggle to acquire new capital from intracompany sources after 1995?

    <p>Reduction in corporate profits</p> Signup and view all the answers

    Match the financial role to its description:

    <p>Holding Companies = Entities that manage affiliated companies within a group. Portfolio Managers = They manage investments for wealthy individuals or families. Debt Financing = Financing that may lead to weaker protections for minority shareholders. Equity Financing = Financing that emphasizes the rights of minority shareholders.</p> Signup and view all the answers

    What describes keiretsu in Japan?

    <p>A cluster of firms interconnected through various ties</p> Signup and view all the answers

    Chaebols' financial institutions encourage investment in inefficient businesses.

    <p>True</p> Signup and view all the answers

    What impact does the underdeveloped financial market have on chaebols' capital structure?

    <p>Higher debt-equity ratios</p> Signup and view all the answers

    Vertical keiretsu focuses mainly on linking companies within different industries.

    <p>False</p> Signup and view all the answers

    What is the primary financial aspect of a horizontal keiretsu?

    <p>Cross shareholdings</p> Signup and view all the answers

    The __________ network of presidents and senior executives is often associated with keiretsu in Japan.

    <p>old boys</p> Signup and view all the answers

    Which of the following is NOT a characteristic of keiretsu?

    <p>Complete independence from government influence</p> Signup and view all the answers

    Match the types of keiretsu with their descriptions:

    <p>Horizontal keiretsu = Links companies around a Japanese bank Vertical keiretsu = Links suppliers, manufacturers, and distributors in one industry Financial keiretsu = Primary interconnectedness through financial services Industrial keiretsu = Focus on production and distribution systems</p> Signup and view all the answers

    The __________ groups in Japan allow for intercompany collaboration to enhance market strength.

    <p>keiretsu</p> Signup and view all the answers

    Name one of the leading horizontal keiretsu in Japan.

    <p>Mitsubishi</p> Signup and view all the answers

    What role do business groups play in Asian countries?

    <p>They dominate domestic economies.</p> Signup and view all the answers

    Business groups in Asian countries only operate under strict legal frameworks.

    <p>False</p> Signup and view all the answers

    What is one reason why business groups are formed in Asian economies?

    <p>To lower transaction costs during high market uncertainty.</p> Signup and view all the answers

    Business groups function as an intermediate organizational form that is neither _____ nor hierarchical.

    <p>market</p> Signup and view all the answers

    Match the following terms with their definitions:

    <p>Transaction Cost Theory = Organizes exchanges to reduce costs between independent agents Institutional Change = Gradual modifications to existing frameworks Liberal Market Economies = Characterized by 'arms-length' corporate governance Coordinated Market Economies = Based on insider rules and bank finance</p> Signup and view all the answers

    Which of the following best describes the governance and finance in Liberal Market Economies?

    <p>Arms-length rules with equity finance.</p> Signup and view all the answers

    Institutional arrangements are identical across all countries.

    <p>False</p> Signup and view all the answers

    What type of market organization is characterized by centralized and high union density?

    <p>Coordinated Market Economies.</p> Signup and view all the answers

    What is the focus of export-led growth policies from 1962-1972?

    <p>Currency devaluation</p> Signup and view all the answers

    Nationalization of commercial banks was part of the policies to support heavy and chemical industry development.

    <p>False</p> Signup and view all the answers

    What term is used for family-controlled, diversified big business groups in Korea?

    <p>Chaebol</p> Signup and view all the answers

    The state provides financial support for __________ and medium firms in the period of stabilization and liberalization.

    <p>small</p> Signup and view all the answers

    Match the following policies with their descriptions:

    <p>Tax holidays = Incentives to reduce tax liabilities for businesses Privatization = Transfer of state-owned assets to private ownership Export incentives = Financial benefits based on export performance Deregulation = Reducing governmental rules affecting businesses</p> Signup and view all the answers

    Which of the following was a characteristic of the developmental state?

    <p>Strategic state intervention in markets</p> Signup and view all the answers

    The elite bureaucracy in the developmental state is described as 'dumb, dependent, and corrupt.'

    <p>False</p> Signup and view all the answers

    Name one of the designated industries for heavy and chemical industrial promotion between 1973-1979.

    <p>Steel</p> Signup and view all the answers

    The HCI drive was _______________ in the period of stabilization and liberalization.

    <p>toned down</p> Signup and view all the answers

    What was one of the key goals of the state-business relations in the developmental state framework?

    <p>To transform the economy</p> Signup and view all the answers

    Study Notes

    Chaebols’ Financial Service Arms

    • Chaebols play a crucial role in the Korean economy, particularly in the financial sector.
    • Chaebols’ role as capital suppliers to affiliated companies is extensive, focusing on acquiring and applying discounts on corporate promissory notes or commercial paper issued by affiliates.
    • Chaebols' financial institutions also function as holding companies within their groups.
    • Financial institutions within chaebols serve as portfolio managers for the chairmen and their families.

    Consequences of Ownership

    • Chaebols' ownership of financial companies has significantly distorted the flow of financial capital, resulting in inefficient capital allocation.
    • Nonbank financial institutions have been transformed into private vaults for the chaebol, diverting capital away from healthier businesses.
    • The lack of credit analysis and control mechanisms has led to Chaebols investing money procured from their own financial institutions in inefficient businesses.

    Capital Structure of Chaebols

    • Chaebols maintain high debt-equity ratios.
    • There are stark differences in corporate capital structures depending on the legal environment.
    • Equity financing prioritizes minority shareholder rights, supports hostile takeovers, and emphasizes corporate information dissemination and shareholder rights.
    • Debt financing offers weaker protections for minority shareholders, limited management monitoring, restricted information dissemination, and less rigorous accounting audits, leading to a higher cost of equity financing due to investor concerns about potential risks linked to information gaps.

    Why did Chaebols take on so much debt prior to the crisis?

    • The Korean economy contracted in 1995, causing a decrease in corporate profits and making it difficult to acquire new capital from internal sources.
    • This led to a reliance on debt financing, which became increasingly problematic.

    Institutions and Specialization

    • Two contrasting institutional environments favor different industrial specialization:
      • Coordinated Market Economies (CMEs) are conducive to long-term investment in skills and incremental innovation, favoring sectors like autos, capital goods, and engines.
      • Liberal Market Economies (LMEs) prioritize flexibility and radical innovation, finding favor with industries like software, biotech, and telecoms.

    Institutional Arrangements

    • The concept of business groups refers to a diverse collection of unrelated and related business units, resembling multi-divisional conglomerates.
    • These groups are held together by some form of governance mechanism, allowing a central entity to control and coordinate the actions of affiliated firms.
    • Business groups are prevalent in Asian economies.

    Why are business groups formed?

    • Transaction cost theory: Business groups reduce transaction costs between independent agents by functioning as a hierarchical system, facilitating coordination under conditions of high market uncertainty.
    • Asian way of organizing exchange: Asian economies are characterized by interconnectedness and interdependence. Business groups act as a form that exists outside market and hierarchical structures, fostering informal and personalized business relationships.

    Comparative Institutional Framework

    • Institutions play a crucial role in shaping the behavior of individuals and governments.
    • Institutional changes are incremental, and adaptations are difficult once implemented.
    • Different countries have varied institutional frameworks.

    Institutional Complementarities

    • Different economic models emphasize different forms of corporate governance, labor market organization, and information dissemination.
      • LMEs favor arms-length rules, equity-based finance, decentralized labor markets, and high labor mobility.
      • CMEs emphasize insider rules, bank finance, centralized labor organization, and limited labor mobility.

    Export-Led Growth: 1962-1972

    • Key strategies to promote export-led growth.
      • Policies included currency devaluation, interest rate reform, the nationalization of commercial banks, the establishment of specialized banks, limited import liberalization, and export incentives.
    • Specific export incentives included tax deductions, waste allowances, export credit subsidies, and export performance-based incentives.
      • The combination of policies encouraged export-oriented production driving economic growth.

    State Entrepreneurial Capitalism

    • During this period, the Korean government pursued a policy of state entrepreneurial capitalism, fostering the development of big business, specifically chaebols.
    • The rapid industrialization effort necessitated significant state intervention, which led to the dominance of chaebols.
    • State and business collaboration was key, and they both relied on hierarchical management structures to implement their plans.

    Heavy and Chemical Industry Development during the 1970s

    • The Korean government focused on promoting heavy and chemical industries.
      • Targeted sectors included steel, machinery, petrochemicals, shipbuilding, and electronics.
      • Policies included long-term subsidized loans, tax holidays and investment tax credits, accelerated depreciation, reduced export incentives, an expansionary monetary policy, and government guarantees for foreign loans.
    • These policies encouraged investment in capital-intensive industries and supported their growth.

    Stabilization, liberalization, and renewed growth: 1980-1996

    • During this period, the Korean economy shifted towards stabilization and liberalization.
    • The HCI drive was scaled back.
    • Policies included anti-inflationary measures, removal of preferential lending rates, privatization of commercial banks, deregulation, market opening for goods, services, FDI, and financial markets, and financial support for small and medium-sized firms.
    • This shift towards market-oriented policies encouraged diversification and a more balanced economic structure.

    The Developmental State

    • The developmental state refers to a state's active role in economic development, especially by directing economic transformation through carefully crafted policies.
    • The developmental state can employ a range of strategies, including industrial, financial, social, labor, and state-business relations policies, to advance economic growth.

    Explaining the Miracle: The Developmental State

    • Korea's success is often attributed to the developmental state's effectiveness in mobilizing resources for economic growth.
    • This model emphasizes the role of a smart, autonomous, and clean elite bureaucracy.
    • Industrial policy played a crucial role in this growth model, utilizing public financial institutions, cartels, and tax breaks to support specific sectors.

    Qiye Jituan (National Team) in China

    • This refers to the concept of large state-owned enterprises in China that are strategically directed to support national economic goals.

    Keiretsu in Japan

    • Japanese business groups are characterized by clusters of firms interconnected through various ties, including shareholdings, debt, interlocking directors, personnel exchanges, shared histories, group memberships, and common brands.
    • Keiretsu is a complex organizational structure with strong influence within Japanese business and the economy.

    Types of Keiretsu

    • Two main types:
      • Horizontal keiretsu (financial keiretsu): This type centers around a bank and provides comprehensive financial services to member companies. Examples include Fuyo, Sanwa, Sumitomo, Mitsubishi, Mitsui, and Dai-Ichi Kangyo bank groups.
      • Vertical keiretsu (industrial keiretsu): This type links suppliers, manufacturers, and distributors within a specific industry, fostering integrated production and distribution chains.
    • Tiered structure: Vertical keiretsu often have multiple levels, creating a hierarchy of relationships within the network.

    Distinguishing Business Groups from Other Networks

    • Business groups are distinct from other business networks due to their complex structures of governance, shared interests, and influence on affiliated firms.

    What are two themes emerging from different definitions?

    • Business groups represent a diverse system of related and unrelated businesses, functioning like multi-divisional conglomerates.
    • Governance mechanisms within these groups allow central entities to control and coordinate affiliated firms' actions.

    What makes Asian business groups differ from other business groups?

    • Asian business groups play a vital role in the economic development of their respective countries, particularly in economies where they dominate the domestic landscape.

    Theoretical Approaches explaining the formation of business groups

    • Transaction cost theory: Business groups arise to minimize transaction costs and streamline exchanges within a hierarchical structure, particularly valuable in situations characterized by high market uncertainty.
    • Asian way of organizing exchange: Business groups cater to the interconnected and informal relationship networks common in Asian economies, acting as a bridge between market and hierarchical structures, fostering more personal business relationships.

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