When Do We Call it the Mother-Of-All-Wars on Inflation?

Lots of Bluster, Unimpressive Results
Inflation continues in Korea, as expected. The Seoul Gyopo Guide suggested that the “war on inflation” declared by the Korean president was a pronouncement made far too late, and Korea faced a tenuous foreign exchange rate/interest rate/inflation conundrum. You cannot lag behind inflation, that isn’t how it works. Why? The reason is that in addition to the idea of actual inflation, there is the notion of expected inflation. In fact, one source of actual inflation in Korea, high energy prices (oil), has declined by over 10% over the past two months, as the Middle East tensions have been mitigated by the fear of a slowdown in global economic growth. However, expected inflation rages on, and as such, companies and people continue to fear inflation, which makes it a self-fulfilling prophecy of sorts.

Double, Double, Toil and Trouble
The Korean president has tried to fight fire with words. It is actually not inflation that President Lee is addressing, it is inflation expectations that are the real target. Therein lies the problem. This Korean President, along with previous ones, have/had very little credibility when making such declarations. Some of that is historical, i.e. Koreans don’t trust the government or large institutions in general. There are an uncountably-large number of examples to support this lack of faith. The fact that Samsung and LG computers are at least 30% more expensive in Korean than in foreign countries is just one small example.

External Issues Are Beyond Korea’s Control: Planning is Required
Some of the factors creating inflation are beyond Korea’s control. China’s growth, the price of oil, the price of raw materials are just three of those factors. Korea has few raw materials and almost no energy resources. As such, it remains at the mercy of the market price of these commodities. Korea should be pursuing policies to stockpile commodities that will be required, and to hedge against adverse movements which would affect Korea. More than six months ago, the Seoul Gyopo Guide has suggested that Korean corporations needed to use financial instruments to hedge against a rising Korean Won. Fortunately, the slowdown in economic growth and the Japanese earthquake have increased the value of the Japanese Yen also. You can see the result to one of Japan’s flagship corporations, as Toyota Motor has reported record losses from the worst combination of factors imaginable. Korean companies have been spared the worst since the Korean Won has remained weak relative to the Yen.

Conclusions and Suggestions
It really would be no fun to be in the BOK’s shoes. Chaebol and real-estate owners on one hand, rising inflation on the other. Korean consumers in the middle, hurt when either hand is bitten. The Seoul Gyopo Guide recommends the following steps. First, Korean corporation financial and operational efficiency must improve dramatically. Sorry, johns and prostitutes, the employees don’t have expense accounts to use on your services any longer. That will require hedging of Korean Won exposure, i.e. the chaebol have to find a way to benefit when the Korean Won rises (this is possible). Second, the Bank of Korea will need to stop intervening in the foreign exchange markets. While the Seoul Gyopo Guide has largely defended the BOK’s right to set interest rate policy, foreign exchange movements on a day-to-day basis are a waste of foreign exchange reserves, and send conflicting signals to the market. Third, lower taxes for real estate transactions and a moratorium on real estate tax changes are in order. There are enough problems in the Korean real estate market, and the legacy of laws changing every time the weather changes is one that many remember. Fourth, much lower import taxes even in the absence of free trade agreements. Everyday Koreans inevitably know about and purchase foreign-made products. The import taxation rules have allowed Korean makers to be less efficient and charge higher prices than would otherwise be the case. Korean-based companies will complain, but that is simply too bad; Korean companies have richly benefited from the combination of favorable tax and policy treatment for decades.
Each of the suggestions above would draw ire from pretty much every special interest group in Korea. In addition, some of the suggestions above cannot occur overnight. These are the first steps necessary for Korea to better control its own economic destiny. There cannot be a perfect answer, other than usurping a much more populated country abundant in natural resources, Korea will face external factors that it cannot control. Please note that these are “high-quality problems,” i.e. these are the problems of a first-world country, not a third-world one. Unfortunately, that fact provides little comfort to everyday Koreans forced to spend every Korean Won earned.