Confucius and Korea Inc.

By Peter S. Kim

For a long time, investors in Korean equities have sought to understand the anatomy of the so-called "Korean discount," the persistent valuation discount that Korean companies trade relative to global peers. Many reasons have been cited over the years, including the structurally weak financial system, the cyclicality of Korean companies, excessive regulations and even North Korean risk. Most recently, the political instability caused by the martial law incident has added to the cynical justification of the Korean discount. All these may be factors, but I think that digging back to centuries-old interpretations of Confucius's teachings may help investors understand the DNA of many issues that continue to hinder the progress of Korean companies and investment culture.

Introduced during the Three Kingdoms period, Confucianism became the dominant ideology during the Joseon Dynasty (1392-1897), replacing Buddhism as the state ideology and influencing governance, social norms and educational systems. Korean Confucians gradually developed their own ideas, with a strong focus on advocating hierarchy and moral leadership to establish a powerful command state that provided a rigidly structured and organized way of life. This strict defense structure was necessary due to Korea's long history of incursions from its neighbors, China and Japan, and constant geopolitical uncertainty. Although modern Korea is more diverse in religious and philosophical beliefs, Confucian values continue to influence contemporary Korean culture, particularly in family dynamics, respect for authority and educational aspirations.

One of the key teachings of Confucius is a social hierarchical structure based on age, gender and educational attainment. During Korea's industrialization since the Korean War, the centralized social structure and collective unity were instrumental in achieving the "Korean miracle." While Korean society has evolved in almost every way, remnants of Confucian philosophy hold back the Korean economy from moving to the next stage of its development.

Korea's traditional industrial firms suffer from waning demand overseas and challenges from the looming tariff war. Against this backdrop, the need to transition from manufacturing to services and high-end industries is of the utmost urgency. To facilitate the transition, companies must be willing to revise their long-held strategies on labor and productivity. While declining job security is not unique to Korea, the rapid growth before the slowdown was almost unprecedented, and the social order has visibly lagged.

Korea's booming industries, which have been neatly positioned between Japan and China since the 1990s are facing challenges, most notably from China, which turned from customer to competitor in less than ten years. The won's recent weakness is a partial reflection of Korea Inc.'s deteriorating export outlook. Given that exports are the most important growth driver of Korea's economy, the downward revision is hitting the core of Koreans' thinking about their future. In the past few years, China's local producers have not only been raising market share at home but also aggressively exporting products overseas. In addition, competition from Japan is intensifying, with the weakening yen further pressuring Korean exporters. Competing with the Japanese in terms of pricing is something Korean exporters have never experienced.

Slowing job creation has become a major social issue, similar to the situation in Japan during its peak. A rigid labor market, where seniority is based on age, college degree and gender, is a major impediment to labor productivity. For an economy whose population is rapidly shrinking, efficient allocation of labor will have to be one of the primary objectives for the nation in the coming years. Currently, labor data indicates that Korea has one of the highest poverty rates for older adults while also experiencing the highest youth unemployment rate, categorized as “seeking jobs” or “remaining in study.” The social pressure of setting a hierarchy based on age and education is one of the reasons for the efficient matching of labor supply to demand.

As Korea enters an age of slower growth and an aging population, the productivity of the labor market should be of national urgency. The young generation entering the Korean labor market continues to challenge the traditional values espoused by Confucian thinking, which is prevalent among government departments and large corporations. The Korean government recently announced measures to welcome foreign tech professionals to help Korea transition into high-tech industries. While it is a welcome initiative to ease the demographic problem, the measure needs to be accompanied by a revision of the Confucius philosophy that remains deep-rooted in many Korean institutions.

Peter S. Kim is managing director at the KB Securities. The views expressed in this article is his own.