SECTION [B] : VARIOUS GOVERNMENT POLICIES

(i) The Industrial Standardisation Act
The Industrial Standardisation Act has been revised 11 times since it was enacted in 1961. Nevertheless, its core objectives remain unchanged. It supposedly facilitates free trade by setting out measurable criteria by eliminating opportunities to create technical barriers to trade, which may be discriminatory in nature. More importantly, this Act is a demonstration of government effort to ensure that Korean-manufactured products achieve a certain level of quality. While having such requirements ensure that the welfare of consumers is protected, it simultaneously ensures that Korean automobiles meet a certain standard, and hence, are competitive in the international environment.

On the other hand, opponents of these industrial standards have argued that the Korean government has used the existence of such technical requirements as a tool to prevent foreign entry into the Korean market. Such practices included unreasonably high standards imposed on imported motor vehicles such as emission requirements and measures to discourage imports through high costs and time delays incurred by imposing redundant testing and excessive documentation requirements.

Since then, the Korean government has agreed to reduce entry barriers associated with such standards. For instance, it signed 2 Memorandums of Understanding (MOUs) with the US in 1995 and 1998 respectively, agreeing to institute a self-certification system that would allow US manufactures to certify their own products, accept US headlamp standards and significantly streamline the current safety standard certification system. Such developments supposedly reduced opportunities for the Korean government to utilise loopholes in the Industrial Standardisation Act as a means to discriminate against imports.

However, despite developments that signify a more open Korean automobile industry, it is crucial to acknowledge that complaints of discrimination among foreign manufacturers persist. Empirical evidence speaks for itself. Even in 2004, 6 years after the second MOU was signed, the market share of imported cars in the domestic market remained at a mere 2.1% or 23,345 vehicles. Additionally, it was argued that laws and regulations drafted remain broad and vague, giving rise to a situation whereby officials are given the liberty to exercise a great deal of discretion in ensuring compliance, and therefore, there is a lack of consistency and transparency. Nonetheless, having said that, it would be unjust to place the blame of the lack of foreign cars solely on technical barriers to entry. There are other contributing factors, which would be discussed in later sections.

(ii) The 5-Year Automobile Industry Plan
Under this plan, the government developed support systems to create a more conducive environment for the promotion of the automobile industry. Government efforts include the establishment of trade associations for motor vehicle manufacturers and auto parts manufacturers. The main objective here was to coordinate economic activity so that parts and vehicle manufacturers could work in tandem to improve the competitiveness of the industry as a whole. Here, the government recognised the importance of cooperation and coordination between the 2 parties because the performance and efficiency of the former inevitably affects that of the latter. For instance, in the late 1980s, the quality of Korean-manufactured cars deteriorated and fell short of international standards because the quality level of parts was inadequate.

At this point, it is crucial to acknowledge that the Korean government encouraged both horizontal and vertical integration within huge conglomerates, known as chaebol. It is important that the general concept of chaebols and the rationale behind such structures is clearly understood because the organisational structures of automakers are based on the chaebol concept. For example, taking the case of Hyundai, its activities are extremely diverse, whereby its non-automobile related subsidiaries include Hyundai Construction & Engineering, Hyundai Merchant Marine, Hyundai Heavy Industries, Hyundai Electronics and financial companies. As for vertical integration in its automobile industry, related subsidiaries included Mando Machinery, one of the largest auto parts manufacturers in Korea prior to the Asian financial crisis in 1997. However, because Mando experienced tremendous financial difficulties during the crisis and was on the verge of bankruptcy due to excessive borrowing and unviable investments, it was forced to restructure. Since then, it has been broken up and pieces have been purchased by foreign interests.

[a] Brief overview on chaebols

Chaebols are large conglomerates that engage in a wide range of diversified activities, ranging from farming to shipbuilding. They were first introduced in Korea in the 1920s when it was under Japanese rule. Thus, the structure of the Korean chaebols, like the Korean auto industry (especially in its initial stages), greatly emulates that of the Japanese Keiretsus.

However, after South Korea obtained its independence in 1945, its growth stagnated and it was not until Park Chung Hee became the President in 1961 that the large conglomerate structure was promoted again. The rationale behind this large, integrated structure was that chaebols would be able to reap the benefits of economies of scale. Furthermore, having control over both downstream and upstream activities allows a conglomerate to control the quality and efficiency of its operations, as each entity is less inclined to serve its own self-interest and more inclined to take into consideration the implications of their actions on the economy as a whole.

In the past, the success of the chaebols was due to the cooperation between subsidiaries and benefits reaped from the sharing of knowledge. Moreover, it was common for profitable units to assist poorly performing affiliates through cross-subsidies. Also, control over financial institutions provided chaebols with abundant access to cheap financing and access to finance for ventures into businesses, which may have been perceived to be too risky by traditional financial institutions.

However, the events that unravelled during the Asian financial crisis proved this notion to be flawed. In the face of deteriorating external conditions, which in turn led to falling domestic demand and depressed exports, auto manufactures that were already fundamentally vulnerable experienced major financial problems. Moreover, it was held that the imprudent practices of the chaebol were, in part, contributing factors to the crisis because of the extent of their participation in the economy, accounting for 80% of total output and 50% of exports in 1997. Therefore, in order to stay afloat, the much needed reforms were taken, and a tremendously successful and competitive Korean automobile industry exists today because of those very reforms.

[b] How has cooperation between suppliers and manufacturers affected the industry?

As mentioned, the manufacturers and suppliers are extremely dependent on one another. This is because auto parts manufacturers play a significant role in the automobile value chain. If suppliers are inefficient, this normally means that the operations of manufacturers would be adversely affected. Furthermore, should the quality of products manufactured by suppliers fall short of expected standards, the final product, ie the vehicle itself, is likely to fall short of standards as well. As mentioned, in the late 1980s, the quality of Korean-manufactured cars deteriorated and fell short of international standards because the quality level of parts was inadequate. Because this high level of interdependence is recognised, suppliers and manufacturers maintain close relationships.

Although vehicle manufacturers previously produced auto parts in house, the Korean government discouraged this practice, as it was held that outsourcing the production of auto parts would be more efficient. The practice of subcontracting began in the mid-70s when mass production of the Pony, the first Korean car, began and manufacturers began to earnestly localise imported components. This was induced by government requirements to increase local content through the implementation of the 3-year Automobile Localisation Plan. The Ministry of Commerce, Industry and Energy (MOCIE) was the agency put in charge of encouraging subcontracting. This view was also inspired by the success achieved in the Japanese automobile industry through the Keiretsu model.

Like in Japan, the supplier-manufacturer relationship was a symbiotic one, where the parts supplier would sell to only one vehicle manufacturer, and the manufacturer would reward the supplier with long-term contracts, assist in promoting the parts supplier, along with other benefits. This system ensures a certain level of loyalty and cultivates goodwill in the supplier-manufacturer relationship, thereby, making suppliers less inclined to pursue their own well being at the expense of the manufacturers. With this, the efficiency and competitiveness of the automobile industry as a whole is preserved.

The existence of long-term contracts also serves as a form of insurance for the parts suppliers. For instance, suppliers are guaranteed a certain level of consistent income, allowing them to undertake capital-intensive investments and make continuous technological improvements without the fear of losing their source of income. Theoretically, this system makes a lot of sense, as it would ensure that parts suppliers commit to R&D spending and other capital-intensive investments that would enable them, and simultaneously, vehicle manufacturers to become formidable competitors in the global arena. Additionally, it was common for suppliers to rely solely on one single manufacturer, while manufacturers had many suppliers to choose from. Since this means that manufacturers can switch suppliers at ease, removing their only source of income, suppliers are more inclined to ensure that the quality of their parts met reasonable standards. Again, this has positive spillover effects on the auto industry as a whole.

However, in reality this system is not without its limitations. As mentioned, the suppliers' operations are relatively small scale, in part, because manufacturers had numerous parts suppliers. In 1997, Hyundai had 380 affiliated part makers and Kia had 270. In contrast, Japanese auto companies, which were in fact larger, had only 140-200 affiliated parts makers. Although there has been some extent of restructuring since then due to the Asian financial crisis to encourage consolidation among smaller firms in order to avoid duplication of resources, the general size of parts manufacturers remain small today, whereby only 7.9% constitute large firms. Their scale of operations hinders them from making the necessary outlay to invest in large-scale, capital-intensive projects. An empirical study conducted in 1993 revealed that only 30% of Korean parts manufacturers had the capability to design new parts in the absence of support from vehicle manufacturers or assemblers. In contrast, 70% of Japanese parts manufacturers were able to do so without external sources of support. Consequently, the level of technology possessed lagged behind that of more established foreign competitors. Moreover, the fact that manufacturers subcontract to a large number of suppliers, they are inevitably burdened by the task of managing numerous suppliers, which can be extremely time consuming.

Furthermore, a study conducted in 1996 revealed that contrary to general perception, there was lack of trust and cooperation between suppliers and manufacturers. It was held that because of the exceptionally high degree of dependence on manufacturers, suppliers knew that they had inevitably less bargaining power than the manufacturers. This implied that the manufacturers could exploit them.

Also, critics of this model argued that suppliers became lackadaisical because they were ensured a secure source of income even if they did not make improvements. Hence, this system also cultivated the "why work so hard if I can get by without doing so anyway?" attitude.

With this there is much evidence to prove that despite Korean efforts to emulate the successful Japanese systems and structures, there remained a great deal of weakness in the Korean automobile industry. An example is the stark differences in the implementation of the Just-in-Time (JIT) method in the Japanese and Korean automobile industries. In Japan, JIT was a distinctive factor in making her auto companies formidable global competitors. However, Korean automobile manufacturers faced difficulties in implementing the full-fledged JIT method of production because of the inherent differences between the Japanese and Korean auto industries.

JIT method of production
The underlying principle behind the JIT method of production is to keep inventory at a level to prevent wastage of resources, yet, maintains at a level that will ensure that the production process is not disrupted due to insufficient inventories. JIT was introduced in Korea in the mid-1980s, after the Korean automobile industry progressed to the mass production and exporting stage.

In an attempt to emulate the Japanese JIT system, the Korean car manufacturers operated depots, which helped suppliers ensure timely delivery in the face of heavy traffic conditions. These parts are subsequently transported from the depot to assembly lines. This system falls short of the full-fledged JIT system due to 2 factors, ie, one, the manufacturers' inability to fully integrate the JIT system with their production system, and two, the suppliers' inability to deliver parts (especially pressed and machining parts) more frequently and in smaller volumes.

In addition, demand for parts is calculated based on predetermined monthly car production plans. Subsequently, on the basis of that projected level of demand, a bill of material is written, taking inventories into account. However, because of the lack of accuracy in forecasted monthly production, the production line is often short of parts or has unwanted components in store.