While I was watching the news on “Global Issues”, the recent protests in South Korea took my attention. While I was used to see large scale protests in European countries, observing fierce clashes between the protesters and the riot police in South Korea was not that common. South Korea, the 11th largest economy in the world, survived the financial crises with minimal damage compared to the Western nations. The businesses quickly recovered with new shoppers pouring in to the markets. Surely, Koreans learned a lot from the bitter experience of the South Asian crises back in 1997.
Since that period, the Central Bank of South Korea became much more effective on the country’s financial system. Thanks to a stronger financial system, this technology-driven nation was able to quickly rebound its GDP back to pre-crises levels, as if there was no recession in the world. So, why those protesters were clashing with the riot police? Apparently, they were not following the Occupy Somewhere movement. Rather, they were protesting the recent ratification of the U.S. – South Korea Bilateral Free Trade Agreement (KORUS FTA). Here is brief information on the agreement:
KORUS FTA was recently ratified by the U.S. Senate in October and by the National Assembly of South Korea in November. The agreement eliminates almost all of the tariffs (taxes on imports) between two nations within the next five years. The agreement was strongly supported by the U.S.-Korea Business Council. According the business council, the Free Trade Agreement can create as much as 280,000 jobs within the U.S.
It is hard to estimate the exact benefits from KORUS FTA, but trade is always good for the economy. Whenever a country has a comparative advantage in the production of a specific product, international trade will make it easier to allocate the resources in that product. Thus, as a result of this agreement, the resources will be more efficiently utilized within each country. Some sectors are usually affected more than other sectors. When it comes to KORUS FTA, the focus has been on the automotive and agriculture sectors.
It is obvious that, given the huge economies of scale in agricultural production, the U.S. has a comparative advantage in the production of farm outputs. Therefore, the U.S. farm products, which were subject to tariffs, will be sold tariff-free in the Korean markets, increasing the demand for these products. Meanwhile, both the Korean customers and the U.S. farmers will benefit from this transaction. The biggest losers will be the Korean farmers, which explains the fierce protests within the country.
The evidence on the automobile sector is mixed. Both Korea and the U.S. are the major manufacturers of automotive industry. Hyundai (OTC:HYMLF) and Kia (OTC:KIMTF) are the major flagship companies of the Korean automotive markets. They have the majority of the market share in the Korean market. These Korean companies also have an aggressively increasing market share in the U.S. business. In the last decade, Hyundai and Kia were able to boost their market share more than three-fold to 4.6% and 3%, respectively.
In November, Hyundai reached sales of 49,610 vehicles, which implies a 22% increase from the last year. Kia sold near 37000 vehicles, an almost 40% increase from 2010 November. The major U.S. producers, General Motors (NYSE:GM) and Ford (NYSE:F) also boosted their sales. GM’s sales increased by 7%, and Ford observed an increase of 13% in November sales.
Union Auto Workers were also among the proponents of the trade agreement. According to U.A.W., 70% of the U.S. trade deficit with South Korea was due to automobile imports. South Korea has a progressive tax system on new auto purchases based on engine size. After this agreement, it is expected that excessive taxes on the higher-volume engine cars and trucks produced within the U.S. will be eliminated. That will give the U.S. automakers a huge advantage over their global counterparts to enter the Korean markets.
Trade is good. Free trade is better. Fair and free trade is the best. The KORUS FTA looks like a fair and free trade agreement, which is voluntarily approved by both states. I expect the trade agreement between the two economies to benefit both nations in the long-term. The tariff-free trade will make it easier to export automobiles produced by Ford and GM into Korean market. The U.S. farmers and agricultural companies will also greatly benefit from the removal of 40% tariff on U.S. imported foods. Major diversified food producers such as Kraft (KFT) and H.J. Heinz (NYSE:HNZ) can also benefit from free trade. While I do not expect the affect to be large, fertilizer companies, such as Monsanto (NYSE:MON) and CF Industries (NYSE:CF) might be among the long-term winners from the free trade agreement.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.