CONTRASTING ASIAN SUCCESS STORIES:
‘CREATIVE DESTRUCTION’, MANUFACTURING PRODUCTIVITY
AND ECONOMIC FLEXIBILITY IN TAIWAN AND KOREA

Two of the most successful Southeast Asian economies, Taiwan and South
Korea, contrast dramatically in their capacity to withstand economic crises.
Research by Bee Yan Aw, Sukkyun Chung and Mark Roberts, published in
the November 2003 issue of the Economic Journal, reveals systematic
differences in the flexibility of their industrial structures, the competitiveness of
their product markets and the working of their capital markets – all of which
mean that Taiwan is better placed to respond to negative external shocks.
The researchers analyse data on firms in seven manufacturing industries in
South Korea and Taiwan. Their results show that in contrast to South Korea,
Taiwan has a much more flexible industrial structure, characterised by
extremely rapid turnover of firms with newcomers establishing their place in
the market by forcing old-timers out of business. As the successful entrants
and surviving incumbent firms are more efficient than the firms that die, they
boost productivity across the manufacturing sector.

The driving force behind this process of ‘creative destruction’ in Taiwan is that
there are few impediments to entry and even fewer obstacles in the way of
bankruptcy. Consequently, compared with South Korea, Taiwanese industries
have higher rates of producer turnover, a less concentrated market structure,
smaller productivity dispersion across plants, smaller productivity differential
between surviving and failing producers and a smaller percentage of
producers operating at low productivity levels.

These patterns are consistent with strong competitive pressures in Taiwan
that lead to market selection based on productivity differences. In contrast, the
reverse patterns in Korea are consistent with impediments to exit or entry that
insulate inefficient producers from market pressures.

Comparing the 1986 and 1991 figures for Taiwan with those in 1988 and 1993
for Korea, volatility rates for Taiwan are between 1.5 and 2.5 times higher
than Korea. This greater heterogeneity in productivity among plants in Korea
is accompanied by a higher percentage of plants in Korea operating at low
productivity levels.

Introducing information on the entry or exit status of plant reveals that
productivity differentials between plants that fail and those that survive are
over twice as large in Korea relative to the differentials in the same industries
in Taiwan. The productivity gap averages around 5% in Taiwan while the
corresponding figure for Korea exceeds 10%. And focusing on surviving
plants in the two countries reveals that incumbent plants in Korea are more
likely to be in the low-productivity tail of the distribution.

All of these patterns are consistent with first, impediments to exit or entry and
second, greater reliance on non-market allocation of capital in Korea, both of
which weaken market selection forces and result in the survival of more lowproductivity producers in Korea than in Taiwan.

Korean entry costs may be higher because the less developed network of
subcontractors leads to more internal production and higher initial investment
expenditures. High entry costs reduce the flow of new producers, making it
easier for low-productivity incumbents to survive, reducing the amount of exit
and resulting in an industry characterised by a higher proportion of lowproductivity producers. Only the lowest productivity plants would find it optimal to exit, leading to large productivity differentials between exiting and
incumbent plants.

Alternatively, investment subsidies to Korean firms in the 1980s could have
resulted in the channelling of credit at negative real rates of interest to Korea’s
conglomerates. Any factor that distorts the linkage between underlying
productivity and future profitability may weaken market selection forces,
reduce entry and exit and promote the survival of low-productivity producers.

The overall stronger competitive environment in which troubled businesses
are pushed out of the market to allow new ones to start up in Taiwan relative
to that of Korea clearly contributes to the greater flexibility of the economy that
may be crucial in withstanding negative external shocks and allowing
economies to avoid economic crisis.

ENDS

Notes for Editors: ‘Productivity, Output, and Failure: A Comparison of
Taiwanese and Korean Manufacturers’ by Bee Yan Aw, Sukkyun Chung and
Mark J. Roberts is published in the November 2003 issue of the Economic
Journal.

Aw and Roberts are at Pennsylvania State University; Chung is in the Ministry
of Finance and Economy, Republic of Korea.
For Further Information: contact RES Media Consultant Romesh Vaitilingam
on 0117-983-9770 or 07768-661095 (email: romesh@compuserve.com); Bee
Yan Aw via email on Byr@psu.edu; Sukkyun Chung on schung@mic.go.kr; or
Mark Roberts on mroberts@psu.edu.