The world's economic 'canary in the coal mine' is stuck between a rock and a hard place

The world’s economic “canary in the coal mine” is stuck.

South Korean exports, nicknamed “the world’s economic canary in the coal mine,” have struggled with 15 consecutive months of drops.

And they’re also facing two major long-term problems: China’s rise in industrial sophistication and increasing labour costs combined with falling export prices.

In a recent note to clients, Deutsche Bank senior economist Juliana Lee outlined how these two “existential threats” have squeezed Korean manufacturing.

Lee notes that China has progressed forward in industrial sophistication over the last few years. In fact, the technology gap between China and Korea, which measures how long it would take for China to catch up with Korea’s tech, has narrowed down to 1.4 years in 2014 from 2.7 years in 2008, according to figures cited by Lee.

Meanwhile, Korea’s share of global exports remained around 3% in 2014, slightly up from 2.7% in 2007, while China’s surged to 11.7% from 8% in the same years, according to figures cited by Lee.

And as for the high-tech goods, Korea’s gain in global export share has remained around 4% since 2007, while China’s spiked to 17.2% from 12% in the same time period.

“While, as the world’s factory, China’s rise in global export share is not surprising, its gain in high-skilled and tech-intensive goods’ export poses and existential threat to its neighbours’ manufacturing industry, including Korea’s,” wrote Lee.

The second big problem, Lee writes, is increasing labour costs as export prices decline.

Korea’s export prices have been declining precipitously, falling 8% from 2007 to 2014. Somewhat notably, this decline precedes the commodities price drop last year — meaning it’s not something that everyone can just blame on lower oil.

“Needless to say, the combination of falling earnings and rising input costs bodes ill for Korea’s manufacturing — it is simply unsustainable, especially given China’s rising industrial sophistication,” argued Lee.

“They clearly point to Korea’s need to improve its economic flexibility/adaptability to a changing global environment, to avoid a rather disruptive consolidation.”

Unfortunately, political gridlock has been hurting Korea’s plans to boost competitiveness and labour market reform, notes Lee.

“With little progress in reform, Korea risks a rather sharp slowdown in growth and a sustained fall in rates in the long run,” concluded Lee.

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