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UNCLAS SECTION 01 OF 03 SEOUL 000096 
 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV ETRD KS
SUBJECT: SOUTH KOREA ECONOMIC BRIEFING - JANUARY 2009 
 
------------- 
In This Issue 
------------- 
 
Domestic Economy 
---------------- 
- ROKG Adopts Expansionary USD 219 Billion 2009 Budget; Accelerates 
Spending 
- ROKG Cuts Taxes to Revitalize Consumption and Investment 
- ROKG Real Estate Reforms 
- President Lee in New Year's Message Puts ROKG on Emergency Footing 
on Economy 
 
Finance and Structural Policies 
------------------------------- 
- Financial Authority Modifying Accounting Rules for Foreign 
Exchange Conversion 
- Korea's FX Reserves Rise Slightly in December, Stay above USD 200 
Billion 
- Financial Authorities Provide Tens of Billions in Foreign Currency 
Liquidity 
- Financial Authorities Indemnify Financial Institutions/Employees 
- Banks Set Rules for Restructuring of Shipbuilding and Construction 
Firms 
- Bank Capital Expansion Fund to Be Launched in January 
- BOK Agrees to Provide Support to Bond Market Fund 
 
 
Domestic Economy 
---------------- 
 
¶1. (U) ROKG Adopts Expansionary USD 219 Billion 2009 Budget; 
Accelerates Spending:  The National Assembly approved the 2009 
Budget and Public Fund Operations Plan on December 13, providing an 
overall budget of 284.5 trillion won (USD 219 billion) -- USD 157 
billion for government accounts and USD 62 billion for public funds. 
 The overall total is 10.6 percent higher in won terms than in 2008. 
 The government also intends to spend more than 60 percent of the 
major projects budget in the first six months of 2009 in order to 
drive private sector consumption and investment.  The cabinet began 
approving expenditures as early as December 16 with an 11.7 trillion 
won (USD 9 billion) budget allocation -- USD 3.2 billion to increase 
capital of state-run financial companies, USD 5.4 billion for 
infrastructure projects and USD 0.4 billion for creating jobs.  In 
another move to signal heavy early spending, the ROKG allocated 
another 3.71 trillion won (USD 2.8 billion), 1.3% of the national 
budget on January 2, the first day of the new fiscal year.  The 
biggest portions of the money were used to inject USD 1.1 billion 
won into five state-run financial institutions and USD 450 million 
into state credit guarantee institutions to provide more liquidity 
for SMEs and exporting firms, purchase non-performing loans and 
provide stability for the housing market. 
 
¶2. (U) ROKG Cuts Taxes to Revitalize Consumption and Investment:  In 
response to the financial crisis, the government implemented 
individual and business tax cuts in November and December valued at 
approximately 35 trillion won (USD 26.9 billion) through 2012, 
including 6 trillion won (USD 4.6 billion) in 2008 and 13 trillion 
won (USD 10 billion) in 2009.  Taxes on auto sales have been cut by 
30 percent for sales between December 19 and June 30, 2009.  In 
addition, tax deductions for short-term investments will be extended 
through the end of 2009 -- 10 percent in provincial areas and three 
percent in greater Seoul.  The ROKG has expanded the scope of 
private sector investment in public infrastructure qualifying for 
favorable tax treatment from roads and bridges to include railways 
and harbor construction.  The volume of such private sector 
investment is projected to reach 20.8 trillion won (USD 15.4 
billion) in 2009, up from 7.7 trillion won (USD 7 billion) in 2008. 
A 20 percent tax deduction for investment will be given for the 
construction of solar cell manufacturing plants.  The ROKG is 
working to ensure all tax reduction acts revised in December will be 
put into effect by the end of January. 
 
¶3. (U) ROKG Real Estate Reforms:  To stimulate drooping demand for 
housing, the Ministry of Strategy and Finance on December 9 reduced 
for the next two years heavy capital gains taxes on family owning 
more than one house.  Previously, those who own two units were 
required to pay 50 percent capital gains taxes when selling the 
first unit.  The new rates will range between 6 and 33 percent.  The 
government's passage of the of the revised Comprehensive Real Estate 
 
SEOUL 00000096  002 OF 003 
 
 
Tax bill on December 13 cuts the real estate tax rate from 1-3 
percent to 0.5-2 percent.  This and other changes will cut the real 
estate tax burden on homeowners by up to 50 percent.  Additionally, 
owners of a single home in provincial areas will be exempt from the 
comprehensive real estate tax, regardless of the home's value. 
 
¶4. (U) President Lee in New Year's Message Puts ROKG on Emergency 
Footing on Economy:  In his New Year message, President Lee 
Myung-bak put his administration on an emergency footing to deal 
with the economic situation.  The president pronounced four major 
guiding principles in running state affairs in 2009 -- fighting the 
economic crisis, caring for citizens, implementing economic reforms, 
and implementing the green growth agenda, also known as the "Green 
New Deal".  Lee promised the government will undertake all necessary 
measures (including accelerating spending, cutting taxes, and easing 
regulatory burdens) to mitigate the credit crunch and revitalize 
investment.  Lee called for 70,000 internships for young people and 
expansion of the social safety net to help families affected by the 
crisis.  He reiterated his green growth strategy focusing on three 
new growth engines -- green technology industries, industries using 
multiple green technologies and high value-added services -- as well 
as revitalizing the country's four major rivers as a multi-purpose 
project, which the President believes can generate 280,000 new 
jobs. 
 
 
Finance and Structural Policies 
------------------------------- 
 
¶5. (U) Korea's FX Reserves Rise Slightly in December, Stay above USD 
200 Billion:  Korea's official foreign reserves at the end of 
December 2008 amounted to 201.2 billion dollars, increasing USD 700 
million from USD 200.5 billion at the end of November.  This 
increase was mainly attributable to a sharp rise in operating 
profits on the foreign reserves and a large increase in the U.S. 
dollar translation value of non-dollar-denominated assets, as the 
dollar fell against most currencies in December.  The appreciation 
of these assets more than offset the foreign exchange authorities' 
sustained supply of foreign currency liquidity to ease turmoil in 
the local foreign currency funding market amid the global credit 
crunch.  Korea's official foreign reserves consist of USD 180.38 
billion of securities (89.6%), USD 20.10 billion of deposits 
(10.0%), USD 582 million of IMF reserve position (0.3%), USD 86 
million of Special Drawing Rights (0.04%), and USD 76 million of 
Gold (0.04%). 
 
¶6. (U) Financial Authorities Provide Tens of Billions in Foreign 
Currency Liquidity in Fourth Quarter:  The ROKG, and the Bank of 
Korea (BOK) in particular, supplied foreign currency liquidity in 
the fourth quarter of 2008 in order to mitigate the sudden shortage 
of foreign currency liquidity as the global financial turmoil struck 
Korea.  The BOK supplied a total of USD 10.22 billion to banks 
through six rounds of competitive currency swaps (on October 21, 28 
and November 4, 11, 18, 25) using its foreign exchange reserves. 
These BOK actions drove the bulk of the USD 39 billion drain on 
foreign exchange reserves in these two months.  The BOK provided 
another USD 10.4 billion to banks through three rounds of 
competitive USD loan facility auctions (on December 2, 9 and 22) 
using dollars from currency swap transactions with the U.S. Federal 
Reserve.  In addition, the ROKG supplied a total of USD 5.7 billion 
dollars in December -- USD 3.1 billion through unsecured loans via 
competitive bidding and USD 2.6 billion through the Export-Import 
Bank of Korea -- to commercial banks to support trade finance. 
 
¶7. (U) Financial Authorities Indemnify Financial 
Institutions/Employees:  ROKG financial authorities decided on 
December 30 to indemnify financial institutions and employees 
against liability for risky decisions.  The objective is to loosen 
the prevailing credit crunch to prevent further damage to the 
economy.  Prior to the indemnification, existing law and regulatory 
practice could result in severe legal sanctions for mistakes.  This 
environment has been blamed by some observers for risk-averse 
decision making in ROK financial institutions.  The indemnification 
does not provide protection for intentional misconduct, gross 
negligence, embezzlement, and fraud.  The new guidelines will cover 
any credit decisions through December 31, 2009. 
 
¶8. (U) Banks Set Rules for Restructuring of Shipbuilding and 
Construction Firms:  The Korea Federation of Banks on December 31 
finalized the rules for restructuring in the shipbuilding and 
 
SEOUL 00000096  003 OF 003 
 
 
construction sectors.  According to the rules, the major creditor 
bank will review a shipbuilder or construction firm with more than 5 
billion won (USD 3.8 million) in debt and foreseeable financial risk 
based on debt ratio, cash reserves, sales-profit ratio, and other 
risk factors.  Following these reviews, companies will be 
categorized into four groups:  A -- normal, B -- temporary liquidity 
shortage, C -- distressed, and D -- in receivership.  The major 
creditor banks will work through the Council of Creditor Financial 
Institutions by proposing a financial support and restructuring 
process for each respective company.  The seven-member Creditor 
Financial Institutions Steering Committee will mediate cases in 
which opinions diverge in the Council of Creditor Financial 
Institutions.  The Committee members are appointed by the Korea 
Federation of Banks (KFB), the Asset Management Association of Korea 
(AMAK), the Korea Chamber of Commerce and Industry (KCCI), the 
Korean Institute of Certified Public Accountants (KICPA), the Korean 
Bar Association (KBA), and an association of insurance companies. 
Policy guidance for this process was disseminated by the Financial 
Services Committee and Financial Supervisory Service on December 9. 
Note:  After the initial effort failed to identify any firms 
requiring receivership, banks announced on January 20 that two 
firms, Daeju Construction and C&Heavy (shipbuilder), would be 
removed from the market.  An additional 11 construction firms and 3 
shipbuilders will undergo debt rescheduling and other efforts to 
restructure. 
 
¶9. (U) Bank Capital Expansion Fund to Be Launched in January:  On 
December 26, the Financial Supervisory Service described 
consultations between the BOK and the financial authorities on the 
anticipated launch of a "bank capital expansion fund" of 20 trillion 
won (USD 15.4 billion) in January 2009.  The Fund is a temporary 
scheme to boost Korean banks' effort to raise capital and will be 
terminated by the end of 2009.  The seed capital to establish the 
fund will come from the BOK (USD 7.7 billion in loans), 
institutional investors (USD 6.1 billion), and the Korea Development 
Bank (USD 1.5 billion).  The BOK was reportedly working to develop 
ways to supply funds that would not contravene the Bank of Korea 
Act.  The fund is not envisaged as obligatory for commercial banks. 
 
 
¶10. (U) BOK Agrees to Provide Support to Bond Market Fund:  Pressed 
by public opinion and other financial authorities, the Bank of Korea 
decided on December 24 to provide a backstop asset purchase 
capability for the Bond Market Stabilization Fund (BMSF).  The BOK 
decision covers asset purchases of up to 5 trillion won (USD 3.8 
billion) on the 10 trillion won (USD 7.6 billion) fund in case 
bond-issuers default.  Investors include banks, insurance companies, 
and securities companies.  The primary purpose of the fund is to 
provide liquidity to quality corporations that are experiencing 
temporary liquidity shortages due to the current market credit 
crunch.  The issuers will be requested to make restructuring efforts 
when necessary.  The Financial Services Commission (FSC) and the 
Financial Supervisory Services (FSS) are supervising operations to 
ensure investor protection and market stability.  Early reports 
indicate that the BMSF has invested primarily in state bonds or 
highly rated securities, eschewing riskier corporate bonds. 
 
¶11. (U) Financial Authority Modifying Accounting Rules for Foreign 
Exchange Conversion:  On December 19, the Financial Services 
Commission (FSC), the Financial Supervisory Service (FSS), and the 
Korean Accounting Standards Board (KASB) have agreed to implement 
new accounting standards for foreign exchange conversion in the 
annual reporting of firms for 2008.  The complicated changes 
basically allow firms experiencing paper losses from foreign 
exchange conversion to minimize financial burdens in annual reports 
except for those resulting from derivative financial instruments. 
The KASB will review the situation in 2009 and determine whether to 
extend the arrangements into 2009. 
 
STEPHENS