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The IMF stands for the International Monetary Fund. It has been established in 1945 and is an international financial institution that, with the International Bank for Reconstruction and Development (IBRD) since March 1947, contributes to the development of employment, income growth and production resources in member countries through the stable expansion of world trade. The South Korean IMF is an event signed a memorandum of understanding with the International Monetary Fund on December 3, 1997, when South Korea was in the midst of a foreign exchange crisis. The IMF required for the introduction of policies such as fiscal and financial austerity, high-interest rates, the dissolution of chaebols, layoffs and floating exchange rates as conditions for bailouts, and the Korean government, which had to prevent the nation from going bankrupt immediately, was forced to accept those demands. As a result, corporate bankruptcies, mass unemployment and the crisis in the real economy accelerated further. The term is called the IMF, the IMF economic crisis, the IMF crisis and so on, but technically defining, the name IMF itself is a misrepresentation because it does not contain the meaning of the foreign exchange crisis. However, it is often used by the local media and other media due to its symbolism that South Korea requested bailout funds from the IMF.

=Description and Core Terms=

After liberation, the Republic of Korea had experienced several economic crises due to oil shocks but had wisely overcome them. In 1997, however, it again experienced an unprecedented financial and foreign exchange crisis with the Southeast Asian economy. In the meantime, through the South Korean government's strong export policy, its economy succeeded in achieving a feat of surpassing $10,000 per capita income and transforming the poor agricultural economy into an advanced industrial economy by achieving annual average growth of 8.4% for 25 years from 1970 to 1996. However, such a government-led economic management system pushed for social corruption and inefficiency in resource allocation through collusion between politics and business, and further deepened imbalances between classes, industries, and regions. In addition, regulatory and protection-based industrial policies had hindered corporate innovation, eventually weakening competitiveness.

The real-name financial system, which was introduced in 1993 for the purpose of preventing corruption and realizing tax equity, had become more dysfunctional than net functions, such as promoting over-consumption and overseas outflow of wealth and deepening financial difficulties of small and medium-sized companies. Furthermore, the measures to expand the market opening following the entry of the OECD in 1996 served as a destabilizing factor for the Korean economy, which was unfamiliar with the market economy and structurally weak.

In the midst of this, foreign investors began to leave one by one, taking a dim view of the future prospects of the Korean economy one by one, as large companies went bankrupt early in 1997 and the currency crisis in Southeast Asian countries triggered in Thailand in May.

Under these conditions, the Republic of Korea was forced to extend a bailout to the IMF in late 1997 when it was eventually driven into a sovereign default crisis due to the inability to settle external debts caused by the depletion of its foreign reserves.

 Core Terms

=Causes= Factor 1: Deterioration of the financial system

After Hanbo Group's bankruptcy in early 1997, a series of bankruptcies of large companies such as Sammi and Jinro continued. The bankruptcy domino of such large companies was attributed to excessive investment in certain industrial sectors by external borrowing and worsening financial conditions stemming from falling profitability in the prolonged economic slump.

The problem was that the series of bankruptcies of these conglomerates had accelerated the insolvency of the weak financial system. As of the end of September 1997, financial institutions' bad loans (non-profit assets) reached about 32 trillion won, or 7 per cent of GDP, doubling from the end of 1996. At the same time, the rapid decline in stock prices led to a fall in the value of stocks held by banks, which also led to a sharp drop in the value of banks' net assets. This was the result of a combination of banks' lack of experience in price and management risk of recognition of market principles and negligence in bank supervision.

As a result, a series of bankruptcies of companies accelerated the insolvency of financial institutions, which immediately led to a decline in Korea's external credibility, leading to a series of the downgrade of the credit ratings of Korean financial institutions by international credit rating agencies such as S&P and Moody's, which led to a substantial suspension of raising new foreign currency funds and the extension of the maturity of relatively large short-term loans. Moreover, foreign currency liquidity was also sharply reduced due to short-term debt repayment and intervention in the market to prevent foreign exchange rates at commercial banks' overseas branches, which almost reached the bottom.

Factor 2: Deferred and failed policy response

Since the second half of 1997, there had been several beeps on the possibility of South Korea's financial crisis in the international financial market, but the government had not listened to it. Additionally, a series of bankruptcies of large companies were carried out on a market-based restructuring basis after the Hanbo crisis, and the hunger crisis, which erupted in July, was left unattended for a long time. As a result, the domestic financial market began to show signs of instability, and as financial institutions became more difficult to raise overseas funds, the government officially declared in late August 1997 that "the government guarantees the foreign debt of Korean financial institutions," but the lack of legal procedures (approval by the National Assembly) failed to restore market confidence. So, its trust had worsened as the financial reform bills were not allowed to pass through the National Assembly.

As a market intervention to defend the won's depreciation reached its limit in November, it expanded the daily fluctuation range of the exchange rate from ±2.5 per cent to ±10 per cent and halted intervention in the currency defence market intervention. Despite the rapid weakening of the foreign exchange situation, the government had not applied for a bailout from the IMF, making the market atmosphere the worst.

Factor 3: Transmitting Effect of Southeast Asian Monetary Crisis

Given the fundamental factors behind the Southeast Asian currency crisis, which erupted in Thailand in May 1997 and had spread to Indonesia, the Philippines, and Malaysia since July, it was also a widening deficit in the current account and slowing economic growth.

In the case of Thailand, the country had achieved high annual economic growth of 8% over the past decade from the late 1980s to 1995, and in 1992, foreign capital had been flooding in due to capital liberalization measures. However, rather than capital being invested in industries, much of the capital flowed into the real estate market and the stock market, causing property prices to soar and stock prices to soar. As the economy went downhill in 1996, the economic bubble led to a sharp drop in real estate prices and insolvency of companies and banks, leading to a currency meltdown as foreign capital began to slip away in one by one. Foreign exchange crises in neighboring countries, including Indonesia, also stemmed from similar circumstances.

When Southeast Asian countries were suffering from such a currency crisis, the government considered because the basic conditions of the Korean economy to be different and sound from those countries, so it would not be affected at all. The result was the same for South Korea. In other words, it had come to face the contagion effect of the crisis in Southeast Asia. Such a "coordination phenomenon" might be attributed to increased interdependence in real life, including trade and investment, among countries, but it would be more likely to cause capital outflows (called Hot Money) including hedge funds and other speculative short-term funds as financial and capital liberalization around the world advanced in the 1990s.

Factor 4: Structural Vulnerability

Structural problems could be attributed to various factors such as corporate management focused on expanding appearance, poor management of financial institutions, and vulnerability to external debt structures, but the most important factors are weakening competitiveness due to high-cost and low-efficiency structures. It was because weakening competitiveness directly leads to sluggish exports, slowing growth, and widening the current account deficit.

Korea's economy had been far less competitive due to high-cost structures such as wages, interest rates, land prices, and logistics costs, and low-efficiency structures such as economic power, collusion between politics and business, excessive administrative regulations, and rigid labor markets. Semiconductors, automobiles, and steel, which were the main export items, were out of competition with Japan, and increased and light industries were out of competition with late developing countries. Also, this high-cost-low-efficiency structure resulted in the domestic industrial hollowing-out phenomenon, such as inducing domestic companies to invest directly in foreign countries and preventing foreign companies from entering the country, which resulted in the weakening of their financial income as well as in the expanding foreign currency borrowing by local companies through capital investment and debt payment guarantees in front of local corporations based on foreign direct investment.

 Comparison of Cost and Efficiency Indicators in Major Countries

 Comparison of Foreign Direct Investment and Foreign Investment in Korea (1993-1997)

(Unit: $1000)

=History=

Key Events and Description
Step 1. Before IMF funding (1)

● An export economy centred on the light industry (the 1960s) → Fostering heavy and chemical industries (the mid-1980s)

∙The 1960s: the low-cost labor, the light industry-oriented export economy through the introduction of foreign capital

∙The mid-1980s:  the capital-intensive heavy and chemical industries to advance of large companies, the diversification of their businesses - Making Investment Funds with Bank Loans and Foreign Loans → Rising Debt Ratio, Reducing Profit → Deteriorating Financial Structure of Large Enterprises

● Accumulated current account deficits and increased external debt between 1994 and 1997

● The occurrence of a series of bankruptcies of large corporates after the early 1997s

∙A large withdrawal of funds from foreign banks

● Recovering temporary stability in the financial market in May and June

∙Temporary stability in the financial market due to measures to expand foreign capital inflow (abolition of foreign securities issuance, etc.)

● 02.07. 1997: the abandonment of Thailand's multiple-currency basket exchange rate system.

∙Beginning of the financial crisis in Southeast Asia in earnest in the wake of the fluidization of Thai baht

Step 2. Before IMF funding (2)

● 15.07. 1997: agreement to suspend bankruptcy of Kia which was one of ten major companies

∙22.09. 1997: apply for its mediation

∙Late October: deal with bankruptcy

∙Beginning to decline of National credibility rapidly: Currency: KRW 888 at the end of June → KRW 915 at the end of September

● 11.09. 1997: Korea Development Bank succeeded in issuing $1.5 billion foreign currency bonds

● Southeast Asian financial crisis spread across Asia at the end of October

∙July in 1997: Southeast Asian foreign exchange crisis from Thailand spread to Taiwan at the end of October → via Hong Kong → Asia as a whole

∙17.10. 1997: Taiwan's dollar plunged 3.6% due to Taiwan's renunciation of its currency defence.

∙23.10. 1997: The Hong Kong Stock exchange plunged 10.4%

∙Japan's eight financial companies went bankrupt masse

● During November 1997: Rapid reduction in foreign exchange reserves, facing a crisis of sovereign default

Step 3. Negotiation with the IMF (major agreement)

● Macro-political field: Focusing on improving current account and attracting foreign investment smoothly

∙Within 3% economic growth in 1998; within 5% inflation; current account deficits: within 1% of GDP in 1998 and 1999

∙Currency Policy: Changing to a tightening stance to stabilize the foreign exchange market, sharply raising market interest rates

∙New exchange rate policy, maintaining fiscal austerity

● Financial restructuring: Comprehensive restructuring to operate the financial system more soundly and efficiently

∙Financial Reform Act: 13 bills after applying for IMF funding (Integrated Financial Supervisory Act, Bank of Korea Act, Depositor Protection Act, Financial Industry Restructuring Act, etc.)

∙Closing nonviable financial companies, restructuring of viable financial companies and capital expansion

∙Organization of Non-performing Loans in Financial Companies

∙Financial firms' merger and acquisition

● Corporate restructuring: Improvement of corporate financial structure, reduction of bank borrowing costs during corporate financing, etc.

∙Promoting the mutual reduction of affiliates, the independent external audit system and the introduction of combined financial statements, etc.

● Liberalization/opening policy: Full promotion of trade liberalization, foreign exchange liberalization and capital liberalization

● Reform of labor-management relations: Increase of flexibility in the labor market, strengthen the function of the employment insurance system

=Restoration= Step 1: Instrument for resolving the initial shortage of foreign currency liquidity

∙05.12. 1997: The foreign exchange situation continued to deteriorate even after the IMF's first liquidity fund of $5.5 billion was provided

∙2 phase strategies to prevent the national bankruptcy crisis: 1st round: extending the maturity of short-term foreign debts of banks and other financial institutions/ 2nd round: directly procuring new foreign capital (issuing foreign bonds) by government

● Negotiation on extending the maturity of short-term foreign debts of financial companies

∙Continuing to collect funds from foreign financial institutions: 12. 1997-Roll-over Ratio Falling Rapidly]

∙Banks lost their ability to repay foreign debts and the government was unable to support them due to a decrease in their reserves.

∙Faced with the unprecedented situation of national bankruptcy under the IMF system.

∙10.12. 1997: The government had decided to pursue a collective debt restructuring with foreign banks to prevent a sovereign default → immediately begun consultations with the IMF

∙Recognizing the seriousness of the situation in the United States, the White House and the Countermeasure Conference under President Clinton was held.

∙Treasury Secretary, Robert Rubin himself evolved it: "Gift of Christmas.": Request for cooperation to Major Wall Street Banks and Finance Ministers of Major Developed Countries

● The government's successful issuance of foreign exchange stabilization bonds

∙The Korean government sought to issue the first foreign exchange stabilization bonds in April 1998.

∙In addition to the IMF fund, 4 billion dollars was raised in Korea's own capacity, and the introduction of funds for issuing foreign bonds on April 17, 1998: Foreign reserves exceeded $30 billion for the first time since the financial crisis in late 1997

● A gold-collecting campaign

∙November 1997 after applying for IMF bailout: A "gold-collecting campaign" was launched in early 1998 amid the voluntary and active participation of the entire nation.

∙An opportunity to let the world know Koreans' willingness to overcome the crisis

Step 2: Implementation of the IMF Program-Macro-policy

● IMF funding and tightening macro-policy drive

∙$35 billion emergency loan agreement

∙Implementing super-strong austerity measures in accordance with the IMF program in the early days of the financial crisis: Strength macroeconomics (growth 3%, inflation 5%, monetary and fiscal tightening policies, etc.) + financial and corporate restructuring program agreements

∙Severe social unrest due to the bankruptcy of many companies and the surge in unemployment

∙Re-negotiate with IMF, etc., easing austerity measures from the second quarter of 1998

Step 2: Implementation of the IMF Program-Structural reform in four major sectors: finance, business, public and labor.

● Financial sector

∙Improvement of the system for financial restructuring

∙Cleaning up large-scale insolvent financial companies: Exiting, transmutation of assets and liabilities (P&A: Purchase & Assumption), merger

∙Improving the soundness of financial institutions

● Corporate Sector

● Labor and public sector





∙Expanding the social stability network and supporting small and medium enterprises and venture businesses











∙Promoting trade, capital and foreign exchange liberalization





- Allow foreigners to invest heavily in domestic financial companies-Allow foreign banks and securities firms to set up subsidiaries, abolish the total limit on a foreign stock investment, and allow foreigners to acquire domestic stocks freely

- Increases the proportion of foreign investment by domestic companies

∙Promoting foreign exchange liberalization









- Prepare the basis for the introduction of Variable Deposit Requirement (VDR)

- Establishment of the Korea Center for International Finance (KCIF)

- Development of FX Early Warning System (EWS) and Establishment of Foreign Exchange Network

- Regulations on Foreign Currency Health of Financial Companies : Introduction of FX Position, FX Liquidity Risk Management System and Mid- to Long-Term Foreign Currency Loans Financing Ratio System

Step 3: Early repayment of IMF borrowing and IMF graduation







=Effects after South Korean IMF= Entering the IMF's management system, the Korean economy faced a new era of low 2 (low growth, low wages), high 4 (high prices, high-interest rates, high exchange rates, high unemployment). Growth slowed and wages were slashed, while prices soared, unemployment rose, and interest rates and exchange rates continued to soar, leaving the shadow of a truly complex recession on the horizon. A great deal of pain followed all economic players.

In the case of the government, a severe cold wave of downsizing and downsizing had come to the bureaucratic society, which boasts the highest stability in terms of occupation and status. Additionally, regulatory and interference-oriented policy enforcement had become more difficult. Regulations and interference had been kept to a minimum and left to market principles so as to revive the creativity of the private sector and enhance economic efficiency. This was in line with the basic ideology that the IMF was aiming for. The government implemented policies by modifying the growth-oriented expansion model that led to the Korean economy and converting it into a macro model suitable for the IMF system.

Corporate industrial policies had been centred on conglomerates or wealthy individuals. They had been seeking to expand their appearance by receiving various favors from the government through collusion between politics and business and monopolizing financial funds. However, under the IMF system, it was no longer able to maintain this loan management. The IMF required the preparation of consolidated financial statements and mutual payment guarantees among affiliates to enhance corporate transparency and internalize management. Therefore, companies had adhered to accounting principles that meet international standards and hurried restructuring to specialize in the industry.

The same was true of the financial industry. The domestic financial industry, which had been represented by government-controlled finance, insolvency and backwardness, also faced a whirlwind of major restructuring and reform. The deterioration of the financial system stemming from the oriented bias of wealthy individuals, poor credit and risk management levels, the opacity of bank accounting and the reception-oriented external competition was not directly attributable to the IMF crisis. Hence, the closure, acquisition and merger of insolvent financial institutions were expected around the end of the fund as required by the IMF to stabilize the financial system, followed by massive store cuts and personnel reorganization.

Finally, the household sector was the biggest victim of the IMF cold wave. Households' purchasing power had been greatly reduced due to wage cuts and reduced real income due to high prices. The pain felt by households was indescribable due to soaring daily necessities and service prices, as well as increased interest burdens on external borrowing due to high-interest rates. Accordingly, it was time for the household sector to need a restrained consumer life set for declining purchasing power.

= Reference List = Kang, K., Liang, H., & Ma, H. (2001). From Crisis to Recovery in Korea: Strategy, Achievements, and Lessons. Place of publication not identified: International Monetary Fund.

Kihwan, K. (2006, July). The 1997-98 Korean financial crisis: Causes, policy response, and lessons. In IMF Seminar on Crisis Prevention in Emerging Markets.

Meltzer, A. (1998). Asian problems, the IMF, and the world economy. Oakland, Pa: Carnegie Mellon Graduate School of Industrial Administration.

Wade, R., & Veneroso, F. (1998). The Asian crisis: the high debt model versus the Wall Street-Treasury-IMF complex. New Left Review, 3-24.

Yoon, J. C. (2000). The Financial Crisis in Korea: Causes and Challenges (No. 79). Working Paper.

Yoo, J., & Moon, C. (1999). Korean financial crisis during 1997–1998 Causes and challenges. Journal of Asian Economics, 10(2), 263–277. https://doi.org/10.1016/S1049-0078(99)00018-4.

Table

Yoon, J. C. (2000). The Financial Crisis in Korea: Causes and Challenges (No. 79) [Table 2]. Working Paper.

Kang, K., Liang, H., & Ma, H. (2001). From Crisis to Recovery in Korea: Strategy, Achievements, and Lessons [Table 3]. Place of publication not identified: International Monetary Fund.

= Citation =