S. Korea avoids Japan export trap; woes linger

The second half of the battle is to ensure that demand at home is strong enough to support South Korea's economy once exports falter. It also needs to restructure household debt, fix unproductive service industries and prepare for an ageing and shrinking population.

The odds favor South Korea's government, which has more room to spend on fiscal policy, whereas the Japanese government's aspiration to shift to a domestically driven economy looks increasingly short of funds.

“You should be long South Korean cars and short Japanese cars,” Jesper Koll, chief executive of investment advisory Tantallon Research Japan, said on Reuters Television.

“Whether it's touch panels or capacitors, South Korea is a real competitor. In all the growth markets like BRICs and Africa, Japanese are simply not there.”

The two countries' stock markets underscore the disparity: South Korea's Kospi index has gained close to 40 percent over the last 12 months, while Japan's Topix fell about 1 percent and has given up all gains recorded this year.

Japan's new government has moved its focus to domestic demand, but the tides of an ageing population, a broken pension system and soaring debt are against them.

South Korean electronics and car makers are gaining market share abroad at the expense of Japanese peers.

Fast improvement in product quality and a collapse in the won — which is 22 percent cheaper per dollar than two years ago whereas the yen gained 22 percent over the same period — have helped. Its free trade push is now likely to keep this trend intact regardless of currencies.

South Korea has just entered a free trade deal with the European Union, putting pressure on the United States to enact an agreement signed with South Korea more than two years ago. Japan is far from such treaties with either.

Korean firms were also faster to realize the need to make goods in emerging markets that are intended for those markets.

A tradition of government intervention toward helping exporters, the legacy of authoritarian governments that had focused all resources on ending poverty, also paid off by pushing exporters to find new markets.

“It's difficult for me to accept this as a Japanese person, but things will be tough for Japan,” said Toru Nishihama, an economist at Dai-Ichi Life Research Institute in Tokyo.

“Japan is three steps behind South Korea in lowering barriers to trade and inward investment. South Korea does need smarter regulations to stop the cycle of consumer credit bubbles but doesn't face the pressure to raise taxes that Japan does when it needs to stimulate the economy.”

One problem South Korea has that Japan does not is ominously high household debt fuelled by rising property prices that allowed homeowners to keep drawing on mortgage loans and by quickly spreading credit cards.

Household loans have soared to almost two-thirds of South Korea's gross domestic product by the end of last year from more than half in 2004 and 40 percent in 2000. At the same time, Japanese household debt has been stable about 40 percent of GDP.

Seoul's stimulus in response to the financial crisis has exposed this weakness further because it armed consumers with an uninterrupted credit supply that will in time need to be removed.

South Korean governments have long pledged to remove most protection from service industries to improve productivity and make it a linchpin of growth.

But the fastest economic expansion in 7+ years is tipping the Bank of Korea towards raising interest rates. Should the government come down too hard on household debt and lending, consumers will not have the cash to splash out on services.

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