The Peninsula

South Korea, Ukraine and Russia Part II: The Economic Dimension

Korea-Russia economic relations are redolent of Ricardo’s classic observations about trade between Britain and Portugal in the mid-19^th century, which generated the very concept of comparative advantage. Korea is an advanced industrial state with a deep manufacturing base and far-flung global production networks. Russia relies heavily on the export of raw materials, and by no means limited only to energy.

Yet making this economic relationship work has proven elusive. Despite recurrent efforts, trade between the two countries remains marginal to both, and even the energy relationship—while forcing Seoul to scramble—is relatively limited. North Korea is central to these limitations, partly as a political stumbling block, but more immediately because it constitutes a physical barrier to trade. Who is going to commit billions of dollars to road, rail and pipeline infrastructure linking Russia with South Korea if North Korea can hold those investments up on a whim? A similar story of limited ties is visible with respect to foreign direct investment. A number of Korean firms—from autos, to home appliances to grain trade –have developed supply chains into Russia. Korea also imports a number of materials that are crucial for global electronics and battery supply chains. Yet while posing tough choices for those firms, Russia’s role in South Korean FDI is similarly marginal.

The result, however, is that pursuing sanctions on Russia posed nowhere near the tough choices that arise when talking about Korea’s dependence on trade and investment with China. As I will discuss in a final post, the most significant effect of the war is likely to be the end of illusions with respect to a “Northern strategy”: the long-standing idea—going all the way back to Roh Tae Woo–that deepening political and economic ties with Russia could help leverage a settlement on the peninsula. Rather, sharper geopolitical dividing lines are being drawn in Northeast Asia, with economics only one part of the larger equation; I take up those issues in a final post.

Bilateral Trade and Investment

Drawing back to the wider trade relationship helps put the energy nexus between the two countries in perspective. Korea’s trade with Russia is volatile, reflecting price trends in key energy products; it can halve or double in a single year. In 2021, Korea’s total trade with Russia was about $27.3 billion, with Korea running a significant current account deficit (just over $7 billion, with $17.3 billion in imports against $10 billion in exports). Predictably, energy dominates the import side of the ledger: naphtha (25.3% of total imports from Russia), crude oil (24.6%), coal (12.7%), and natural gas (9.9%) together account for 72.5% of Korea’s total. The remainder is dominated by a mix of other raw materials ranging from uranium and palladium to neon and a variety of ferroalloys.

But Russia only accounts for 2.2% of Korea’s total trade. There are, to be sure, some dependencies that will require adjustments, even with the energy carve out to the sanctions regime. In 2021, Russia’s share of Korea’s total imports of anthracite was 40.8% and of naphtha 23.4%, with Russia its second and top supplier in these commodities respectively. The corresponding numbers for bituminous coal were 16.3%, for natural gas 6.7% and for crude oil 6.4%.

Were Korea to decide to curtail Russian energy purchases—in whole or in part–the country would have two options to adjust. The first is to seek out alternative source of foreign supply; the Moon administration was already thinking along these lines. But as Troy Stangarone argues at The Diplomat, Korea could use the opportunity to undertake more structural energy shifts: closing coal-fired plants, transitioning to renewables, even seeking a more rapid transition to electric vehicles. In doing so, it would quite clearly make good on its international environmental commitments. But the main point to be made here is that dependence on Russia does not pose the same challenge now confronting a number of Central and Eastern European countries, nor the looming question of how to manage Korea’s dependence on the China market.

On the export side of the equation, the Russia trade is pretty much what you would expect, with autos dominating and machinery, electrical equipment and plastics in the top five. Yet given the relatively small share of total exports, losses would appear more likely to arise around the accumulated foreign investments Korea has in the country, particularly in the manufacturing sector. A 2020 study by Ekaterina Degtereva and Han-Sol Lee provide a good overview of these ties through 2018 and we have data from the Korean Ex-Im Bank to update it. Investment was minimal until 2006—running at well under $50 million a year—before a burst of activity in 2007-2010 and then a return to about $100-125 million a year over the last decade.  Yet this puts total foreign direct investment over the last decade at around $1 billion, while Degtereva and Lee note that investments in the U.S., China and Vietnam for 2010-2018 were about $72 billion, $31 billion and $14 billion respectively. Russia occupies a niche for particular firms, but it is marginal to Korea’s global production networks.

The circumstances facing Korean firms operating in Russia differ, but total investment is dominated by manufacturing, mostly but not entirely for the domestic market. For example, Hyundai Motors has a facility producing over 200,000 units a year that has sales not only in Russia but the wider post-Soviet market. LG and Samsung both have facilities supplying the domestic market, and there are some investments in services as well. Those companies that are stranded in Russia face challenges brought on by the wider sanctions regime: first and foremost, the difficulties managing financial transactions after Korean compliance with the SWIFT ban and logistics problems associated with the shutdown of transportation. But Korean firms are also going to face restraints on technology exports that will also hamstring local production in certain sectors, most notably in the use of chips that have been proscribed.

To date, Korean firms have not faced the same domestic outcry to withdraw outright that U.S. and European firms have faced. The most comprehensive database of the operations of foreign multinationals in Korea, maintained out of Yale here, does not track any Korean companies. Yet even in the absence of public relations pressures, the war shows no sign of winding down. Operating in Russia is likely to become more and more difficult over time and many operations will probably end up shuttered, even if firms seek an option to return.

The Moon Administration Responds: The Economic Dimension

The problems posed by the war are by no means limited to the direct effects on trade and investment with Russia itself. The wider destabilization of the oil market and global supply chains is of much greater significance. Korea is now more dependent on energy than it was at the time of the first oil shock in 1973-74, when the domestic coal industry accounted for a larger share of energy needs. Today it stands as the OECD country with the highest overall dependence on imported crude oil, and with roughly 93% of Korea’s total energy needs imported. In April, Korea participated in the globally coordinated effort of 31 countries through the International Energy Agency to release strategic reserves to calm markets, the second release in a month and only the fifth in the Agency’s entire history.  Yet even if Korea is able to maintain Russian energy imports—as it is currently permitted to do—the Moon government had already outlined thinking about how to shift sources of supply to offset risk: looking to the U.S., North Sea and other Middle East suppliers for crude; Australia, South Africa and Colombia for coal, and Qatar, Australia and the U.S. for gas. The new Yoon administration will no doubt continue these efforts, although Korea will be joining a queue of other countries seeking to do exactly the same thing.

Bilateral and multilateral supply chains have also been destabilized by supply shortages, price increases, and China’s continued commitment to a zero-COVID policy. The Moon administration had also already developed programmatic support for a cluster of industries adversely affected by the last wave of COVID cases. Korea’s longer history with industrial policy may stand it in good stead in managing these challenges, and the last two months have seen a raft of announcements of various forms of government support, some to industries and classes of firms feeling wider distress, others targeted more specifically on Russia. Recent legislation such as the 2019 Act on Special Measures for the Promotion of Specialized Enterprises for Materials and Components and the Special Act on the Promotion of Advanced Industries were joined even before the invasion by more ad hoc measures responding to mounting disruption across a range of markets, such as a Presidential Committee on Economic Security and Supply Chain Management and a Supply Chain Stabilization Fund. We can expect the types of special measures announced since the onset of the war (for example, here and the considerations around mineral supplies here) to continue under the new administration. Yet it will have to grapple with those issues in the context of a global economic outlook that has become dramatically more uncertain.

The End of Illusions

As I argued in my last post, Korea joined the international coalition in sanctioning Russia with two discrete packages that mirrored the wider sanctions regime. If it did so with a lag it was largely due to institutional constraints, such as the fact that core sanctions efforts were being negotiated with the G7 and EU of which Korea is not a member. The relatively small role that Russia plays in Korea’s trade and investment portfolio made these decisions easier to make, but nonetheless imposed at least some costs on firms with operations in the country or reliant on particular imports. To date we have no systematic information on how Korean firms are responding—on their own—to the war and how many will make the choice to leave.

But the real challenges facing the South Korean economy do not arise from the bilateral relationship per se, but the much wider fallout on everything from energy and food prices to supply chain disruptions. There, too, the Moon administration appears to have acted with alacrity. Yet the broader question is what the war means for Korea’s geostrategic interests in Northeast Asia. I take up this issue next time, and argue that the most important victim of the war is the illusion that a wider regional economic architecture could leverage progress with North Korea.

Stephan Haggard is a Non-Resident Fellow at the Korea Economic Institute and the Lawrence and Sallye Krause Professor of Korea-Pacific Studies, Director of the Korea-Pacific Program and distinguished professor of political science at the School of Global Policy and Strategy University of California San Diego. The views expressed here are the author’s alone.

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