Will Korean Economy Repeat the Mistake of Japan after Plaza Accord?

Korea could repeat Japan’s long-term depression with the Korean government condoning the appreciation of the won to some extent in order to boost domestic consumption.

The 30-year-long depression of the Japanese economy carries significant implications at this point of time. It was ignited back in 1985 with the Plaza Accord. At that time, the United States demanded the yen to appreciate to address its current account deficit, and Japan accepted the demand on the confidence that it can make up for the subsequent decrease in exports by means of the domestic consumption.

As a result, the yen-dollar exchange rate fell from 250 yen to 150 yen per U.S. dollar in just one year, delivering a serious blow to Japanese exporters. Exports from Japan declined for 33 months in a row in the wake of the conclusion of the Plaza Accord. Then, the Japanese government came up with a series of measures to boost domestic demand. However, such measures led only to the burst of an economic bubble and deflation. It is no stretch to say that the Plaza Accord is the main culprit of the so-called lost decade of Japan.

The central bank of Japan cut the key interest rate to help the firms suffering a decline in profitability. During the single year of 1986, the rate fell from 5 percent to 2.5 percent a year.

Unexpectedly, however, investors rushed into the asset market. The price earnings ratio (PER) of NIKKEI jumped 70-fold in late 1989 and the loan-to-value (LTV) ratio exceeded 100 percent. In the meantime, corporations moved abroad to exacerbate the hollowing out of the manufacturing sector.

The Japanese government was rather lax in its fiscal policy, too. Due to populist policy and the continuous expansion of fiscal spending, government debts skyrocketed from 37 percent to 238 percent of the GDP between 1990 and late last year.

Experts say that the Korean government would be well-advised to pace itself in view of the slow recovery of domestic consumption as of late, though the balance between export and domestic consumption is the ultimate goal without any doubt. “Many people think that a drop in the won-dollar rate will result in greater imports of raw materials, more investment, and lower import prices, but the thing is, the exchange rate and domestic consumption have no close correlations at all,” said Lee Jun-hyup, research analyst at the Hyundai Research Institute, adding, “Rather, in some cases, the drop in the forex rate could hamper the export side as well.”