Academic journal article Management International Review

What They Learned from the Crash: A Comparison of Korean Firms' FDI before and after the 1997 Financial Crisis

Academic journal article Management International Review

What They Learned from the Crash: A Comparison of Korean Firms' FDI before and after the 1997 Financial Crisis

Article excerpt

Abstract

* This study examines the effect of the 1997 Asian financial crisis on the foreign direct investment (FDI) activities of Korean firms. It identifies differences in their behavior before and after the crisis and examines the determinants of their FDI in terms of location factors, ownership factors, and strategic factors.

Key Results

* The study reveals a drop after the crisis in oligopolistic reactions among chaebols (Korean business conglomerates). It shows that both before and after the crisis, a firm's international experience was a major determinant of Korean FDI, as were the market size and political risk that a potential host country presented. The result for tariff system also indicates that the role of tariff shifted after the crisis.

Introduction

The financial crisis that struck East and Southeast Asia in 1997-98 was, for most countries in the region, the most severe in half a century. Coming after more than two decades of escalating growth, at a time when Asian economic dominance was thought by many to be imminent, the crisis was a major shock to corporations in the region (World Bank 1993, Delhaise 1998, Garten 1999). Five Asian countries were directly involved in the debacle--Thailand, Malaysia, Indonesia, the Philippines, and Korea. All had become progressively more dependent on foreign lenders and investors. Their short-term debt had ballooned in the period before the financial crisis, and by 1997, foreign investors' confidence in the ability of these countries to service their debts had eroded. They pulled their money out, refusing to roll over their loans, and the result was a sharp drop in the value of these nations' currencies and share prices. Ailing banks and heavily leveraged companies went bankrupt, further degrading credit ratings (Feldstein 1998). At the time, Korea was the 11th largest economy in the world, and to address the crisis the government took out the largest package of loans in the history of the International Monetary Fund (IMF). In order to obtain the loans, the Korean government had to agree to radical changes in its economic system (Lodge 1998).

For Korean corporations, the crisis was an organizational shock that required both short-term crisis management and long-term structural changes. Moreover, the crisis affected not only their domestic strategies, but, because Korea had become part of the global economy, (1) their FDI strategies as well. Globalization had brought both costs and benefits to Korea (Stiglitz 2002). The country's former success was based on globalization, especially on expanding opportunities for trade and foreign investment, and increased access to overseas markets and technologies. On the other hand, Korea's financial crisis was also aggravated in the process of globalization, particularly under the sway of global mutual funds.

This paper considers what specific lessons Korean firms might have learned from the 1997 financial crisis by posing two research questions: did the crisis affect their management of FDI? And has the crisis influenced their FDI behaviors subsequently? As an increasing number of MNEs are now originating from emerging economies, such as Korea, the importance of an empirical examination of emergingmarket MNEs, especially after they have experienced the financial crisis, has become apparent. They might perceive and react differently to the surrounding global stimulus compared to those originated from developed economies.

A firm's decision to expand into foreign manufacturing is likely based both on its own capabilities and on the behavior of its rivals. And yet, while a number of empirical studies of FDI have addressed either the former (Hennart 1977, 1982, 1991a) or the latter (Knickerbocker 1973, Graham 1974, 1978, Flowers 1976), almost none have considered both at the same time. Transaction costs theory (Hennart 1977, 1982, 1991a) highlights firm-specific assets in explaining the decision to expand abroad, but it ignores the strategic phenomenon known as "follow-the-leader" behavior, whereby, when a firm in a loose oligopolistic industry goes abroad, its rivals in that industry may follow it (Knickerbocker 1973, Graham 1974, Flowers 1976). …

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