Harmonizing Social Welfare and Economic Growth: Case Studies of European Countries

and Implications for Korea

Yoo-Duk Kang, Tae Hyun Oh, Cheol-Won Lee, Hyun Jean Lee and Junyup Kim

Debt crisis in some European countries have created a controversy in Korea, which has managed to achieve a relatively sound fiscal position. However, with welfare spending continuing to garner a bigger chunk of the national budget, this has become a key economic issue that has attracted much public attention. Fiscal conservatives call for tighter controls on welfare spending, because once spending starts growing, it tends to become hard to reduce and reverse. On the other hand, some are calling for greater welfare spending in order to temper the effects of economic polarization, social unrest, unemployment and an aging population. In this context, this paper aims to examine the relationship between welfare spending and economic growth and propose a direction for welfare policy which can actually contribute to economic growth.

Discussion over the proper size of welfare spending is based on the argument that large governments tend to be inefficient. It is often said that large government distorts resource allocation and economic activities, not to mention that big welfare spending decreases incentives to work, leading to chronic low growth and high unemployment. However, there are also opinions that cite positive effects of welfare spending on economic growth. First, welfare spending can make up for capital and labor market failure. As income inequality may inhibit investment for human and physical capital, redistribution policy can remedy this capital market failure and promote growth. Second, welfare spending can contribute to social integration, allowing for stable growth. Widening income gap aggravates discord and conflict between classes, becoming a factor for social unrest that leads to negative impact on economic growth. According to various empirical studies, there is generally a negative correlation between government spending/welfare spending and economic growth rate, although the correlation has not been fully confirmed. However, while it may be very difficult to find causality, it is relatively easy to prove a correlation. Against these arguments and previous studies, this paper reviews the correlation between government spending/welfare spending and economic growth rate, and finds a number of variables that may affect the correlation. Many studies have pointed out negative correlation between big government spending or large welfare spending and economic growth rate, which this paper confirmed as well. However, we have shown that the impact of welfare spending on economic growth rate varied depending on its characteristics. Of special note, countries with higher education and R&D spending displayed high economic growth rate despite large welfare spending as a percentage of GDP. This finding can be interpreted as investment in human capital and productivity increase having a big impact on the growth rate in the long run.

Even though there have been many research on the classification of the European welfare models or regimes, Esping-Andersen (1990)'s tripartie-regimes is the most significant amongst them. He argues that European Welfare models consist of Liberal (the Anglo-Saxon), Conservative (Continental) and Social Democratic (Nordic) models according to decommodification and social stratification. However, some experts and researchers, in particular Ferrera (1996) and Sapir (2005), put weight on the distinctive importance of the Southern European model which is different from the Continental model. As a result, our research makes use of four European welfare models: the Anglo-Saxon, the Continental, the Nordic and the Southern European.

The Nordic model is well known for the high level of social expenditure based on citizenship rather than on contribution. In this model, the role of government is more important than that of the market. Also the Nordic model tries to enhance the linkage between work and welfare by active labor market policies. On the other hand, the Anglo-Saxon model regards welfare not as a social right but as distribution, focusing on low income households as social assistance based on means-test. Therefore, the requirements for beneficiaries are very strict even though the level of welfare is not higher than that of other Welfare models. In the case of the Continental model, it reflects key features of both the Nordic model and the Anglo-Saxon model. While the Continental model contends that the role of the government is more important as the case of the Nordic model, it sets up complex pension systems that reflect occupation, resulting in wider economic polarization. Lastly, the family-centered Southern European model is known for its high level of employment protection. And cash benefits are more important than other methods. However, as many experts point out, the structural problems of the Southern European model have to be addressed with respect to welfare sustainability.

After analyzing the European welfare models by the OECD Social Expenditure Database (1994~2007), we can find an array of results. First, the improvement of income inequality and the rate of poverty are more effective in the Nordic model than in other three European models. Second, the welfare sustainability is even higher in the Nordic model and the Anglo-Saxon model in terms of the efficiency. Third, the Anglo-Saxon model and the Nordic model display high level of GDP per capita as the measure of economic performance. Lastly the Southern European model can be estimated to be less effective than any other European Welfare models. However, there are some critiques on the classification of European Welfare models. For instance, countries classified within the European Welfare models display disparate performances and features. This is the reason why case-studies on major countries' welfare systems are needed.

For more detailed analysis, we selected four European countries, Denmark, Sweden, Germany and Netherlands, which are regarded as successful cases of welfare reform since the 1990s. In case of Denmark, the Danish government has focused on improving labor participation to account for the mid and long-term demographic changes (i.e. population aging) and strengthen the sustainability of the Danish welfare system since the 1990s. In this context, some examples include raising the retirement age to 67 for receipt of pensions and reforming voluntary early retirement pension (VERP) that delays retirement age, providing more incentives to work. In the meantime, welfare reforms in Sweden have been initiated as a response to the negative business cycle shock and sequential crises in its welfare system. While Swedish public spending is under the control of strong fiscal regulations, the Swedish government has tried to make for a more predictable and sustainable welfare system. For instance, through the pension reform in 1998, it is possible to reflect real wage, inflation rate, economic growth, and life expectancy in the calculation of the amount of pension entitlements improving the overall sustainability of the Swedish pension system. In Germany, “Hartz reform” in 2003-2005 formed the foundation of the current German welfare system, focusing on the promotion of employment and the flexibility of the labor market. This brought about new forms of labor such as dispatch working and mini-jobs. Moreover, education and financial assistance is provided to encourage the elderly and women to actively participate in the labor market. Especially, in order to cope with the aging society, the age level of persons benefiting from the pension system has been raised. In the German welfare system, all policies acknowledge that welfare and growth influence each other. The Netherlands has long been the model of traditional and generous welfare state in Europe. After the Wassenaar Agreement in 1982, the Dutch welfare system has developed a tendency to focus on lightening the tax burden in public expenditure, control over wage increase, and reducing the level of social security by practicing flexicurity. In order to maintain female and elderly citizens within the labor market, various policies were implemented. Upward adjustment of the retirement age occurred within the same context. However, after the global financial crisis and European financial crisis, the Dutch government is seeking methods to secure financial stability by efficient allocation of welfare as well as increasing productivity by invigorating the labor market.

Today, welfare state models face numerous challenges. Many developed countries in Europe are experiencing worsening fiscal sustainability with narrow room for economic stimulus, and more sluggish economic growth. Austerity measures were put in place to recover fiscal stability, but making cuts in large spending budgets has proven difficult and painstaking. Raising tax rates, which represents an alternative, is difficult for possibility of its negative impact on economic activity. As for semi-developed countries, the likelihood of increases in future welfare spending due to low birth rate and aging populations looms over already-existing demands for more welfare. We can find some implications from the above cases toward a future direction of Korea's welfare policy. First, it is necessary to maximize existing welfare policy, but also develop ways to raise taxes in growth-friendly way. Also, in the coming years, it is necessary to decide on the time for increasing tax rates. Second, we have to create an atmosphere conducive to policy innovation. Mindful that high tax rates, an essential feature of welfare regimes, may put burden on business activities and employment, it would be necessary to ease unnecessary regulations and reform the business environment in order to encourage economic activity. Third, we must establish growth-oriented welfare regimes with special focus on strengthening human capital and employment rates. It is helpful for long-term growth to raise productivity through robust R&D investment. Welfare reforms reviewed in this paper focus also on increasing retirement age in order to cope with population aging. It is required to raise productivity and employment rates to sustain economic growth, and use the fruits of that increase on raising growth rates for sustaining the welfare regime.

Strategies to Strengthen Industrial Cooperation with Major Emerging Countries in Southeast Asia

Taeyoon Kim, Jae Wan Cheong, Jaeho Lee, Mingeum Shin, Na Ri Park and Yoomi Kim

This research studies on industrial cooperation between Korea and Indonesia, Philippines and Vietnam focusing on textiles / textile articles (Section 11), base metals / articles of base metal (Section 15), mineral products (Section 5), and electronic products (Chapter 85). It analyzes a trade structure between Korea / China / Japan and three Southeast Asian countries focusing on production process. Also, a survey is done to understand production networks of foreign manufacturing firms in the three Southeast Asian countries, originated from Korea, China and Japan.
Regarding the trade structure, global production networks have been strengthening because of the continuous increase of intermediate goods trade. Korea’s exports of final goods in the manufacturing sector have also increased, which indicates Korea’s competitiveness in the production of final goods compared to other firms.

More specifically, Korea imports both intermediate goods and final consumer goods in textiles / textile articles sector while exporting most of the intermediate goods. Primary goods and intermediate goods in base metals / articles of base metal sector are imported while intermediate goods are mainly exported. In electronic products, the trade is focused on that of parts & components and capital goods. We have a pattern of importing primary goods while exporting intermediates goods in the mineral products sector.

This study thus proposes the following measures for industrial cooperation, with respect to creating Korea’s comprehensive strategy towards Southeast Asia.
First, Korean government should reinforce current inter-governmental consultative body to create business-friendly environments, and strengthen Korea’s soft power by utilizing development cooperation. To this end, ODA tailored to each industrial sector should be expanded and contribute to enhancing the industrial competitiveness of Indonesia, the Philippines, and Vietnam. Strategies to reduce service link costs should be prepared to help Korean manufacturing firms build global production networks. AEO-MRAs (Authorized Economic Operator-Mutual Recognition Agreement) should be signed with emerging Southeast Asian countries.

Second, it is necessary to formulate strategies to strengthen the competitiveness of Korean enterprises in Southeast Asia by industrial sector. Given that Vietnam will join TPP, in the case of the textiles / textile articles companies, government should support companies to enter the local market from the initial stage of yarn production to satisfy the US’s rules of origin for textiles (e.g. yarn forward). The ongoing initiative of "Korea-Indonesia industrial cooperation" should include technology cooperation in the area of textiles / textile articles as a representative example of industry-related ODA. In the case of base metals / articles of base metal and electronics, the Korean government should make an effort to improve the inadequate system of the local governments (e.g. standardization, reinforcement of safety standards, etc).

Third, to compete with the rivals such as China and Japan, systems that can obtain and exchange necessary information with the local governments should be reinforced. The biannual meetings held between Korea and Vietnam’s Ministries of Finance, National Tax Services, and Customs Services should also be initiated with Indonesia and the Philippines, and provincial governments should also be involved.

Fourth, Korean government should develop successful cases of cooperation and fully utilize them when it comes to industrial cooperation with the three countries. Public-private partnership projects should be backed by strategies that combine Korean government’s financing and private sector’s technology. It is necessary to seek measures that encourage private companies to participate in industrial cluster projects.

Green Climate Fund: Current Issues and Way Forward for the Successful Operationalization

Jione Jung, Jeongmeen Suh, Jinyoung Moon and Jihei Song

At the 16th session of the UNFCCC Conference of the Parties(COP), the parties reached an agreement to scale up climate finance to 100 billion dollars per year by 2020. This decision, also known as the Cancun Agreement, mandated the establishment of the Green Climate Fund, a multilateral fund designated for climate change mitigation and adaptation activities. The Green Climate Fund is expected to serve a key role in operationalizing the scaled-up climate finance. Korea entered the competition to host the Fund along with five other nations, including Germany and Switzerland. At the GCF Board Meeting in October 2012, the board decided to host the GCF Secretariat in Songdo, Incheon. The decision was approved at the COP18 in Doha the following December. Thus, the establishment of the GCF Secretariat in Songdo, Republic of Korea became official.

Considering its emergence from a recipient to a donor country in just a few decades, Korea has the potential to serve as the bridge between the developing and developed nations. In addition, by hosting the only multilateral climate fund in the Asian region, Korea seeks to pursue a more active role in the international climate change scheme.

The GCF maintains an independent secretariat as well as a legal entity. Moreover, a substantial amount of the long-term finance for climate change is expected to be channelled through the GCF. This paper seeks to provide an up-close observation of the backgrounds and characteristics of the Green Climate Fund. Based on the observations, the paper aims to analyze the potential and limits the Fund presents to Korea, and eventually to provide a policy direction for Korea.

The paper is organized in the following order. Followed by an introduction in the first chapter, Chapter Two provides a precise observation on the establishment of the GCF. The chapter reviews discussions regarding climate finance at the Convention, as well as those on the relationship between the Fund and the Conference of the Parties. To pursue these goals, the paper analyzes the financial mechanism of the Convention as well as the COP guidelines and decisions.
Chapters Three and Four review two critical issues at the GCF Board: mobilization and delivery of the Fund. Initially, the resources for the GCF was projected to be mobilized through various sources including bilateral and multilateral channels; as well as public, private, and innovative sources. Nevertheless, at the moment, no donors have made pledges to the Fund, putting the operation of the Fund at risk. Chapter Three seeks to provide a theoretical overview of factors that influence donor countries' decisions to contribute to multilateral funds. Global Environment Facility has been responsible for the financial mechanism within the Convention. The World Bank's Climate Investment Fund is also a prominent multilateral fund related to climate change. An analysis of the two funds are made, in order to explore options for the GCF. Chapter Four discusses various issues regarding the delivery of the Fund. These issues include financial instruments, access modalities, and options to facilitate private sector participation. The Chapter also provides a review of existing funds regarding critical issues. Based on the findings, the chapter emphasizes strengthened financial readiness of the recipient country, considerations for private sector participation, and mutual accountability as preconditions for the success of the Fund.

In conclusion, Chapter Five provides suggestions for the Fund and strategies for Korea, focusing on the success of the Green Climate Fund. In order to ensure the successful launch and sustainable operation of the GCF, the paper identifies three major challenges that need to be addressed. The challenges include, differentiating the Fund from other existing funds in order to draw financial resources, creating an enabling environment for effective use of the Fund, and expediting progress in the Convention negotiations regarding climate finance. Currently, the most urgent task in operationalizing the Fund is maximizing the inflow of public resources to the Fund. By highlighting country ownership, the Fund can promote distinction vis-a-vis other existing funds, thus attract donors' contributions. Furthermore, as contributions are not expected until the completion of the GCF business model, prompt creation of an enabling environment for direct access and result-based approach is crucial. Breakthrough at the climate finance negotiation which is directly related to the resource mobilization of the Fund is another pressing task.

In the second part of Chapter Five, the paper provides suggestions for Korea as the host country of the GCF Secretariat. For instance, Korea can present ideas for a more rapid operationalization of the GCF. While regular replenishment of resources is desired in terms of stable function of the Fund, ad hoc contribution is inevitable for initiating operations in the near future. Korea can consider putting forward an alternative, to provide a guideline for the phased conversion of ad hoc contribution to regular replenishment based on certain conditions, and to persuade countries to agree to the guideline. Secondly, climate finance readiness and preparatory support for developing countries will lead to creating an enabling environment for the delivery of the Fund. Government support to foster related industries, such as finance, and consulting services in climate change and green technology will largely facilitate the partnership with the GCF. Lastly, the paper presents a guiding direction for Korea in its participation in the climate talks. Durban Platform, as decided at the 17th session of the Conference of the Parties, will serve a critical role in the future climate change negotiations. Since finance, technology development and transfer, and capacity building are mentioned as the means of implementation, Korea should pursue more active participation in the climate finance negotiations so that a good sum of international climate finance is channeled into the GCF. In addition, the paper also suggests that Korea participate more actively in the discussions regarding balanced support to mitigation and adaptation, creation of an effective tracking system of climate finance, and also linking capacity building and technology transfer with the GCF support.

A Study on the Governance of the Global Commons

Jin-young Moon et al.

The global commons are resource domains or areas which no nation exert sovereignty over. Three typical global commons refer to the deep seabed, Antarctica and, outer space. They have been said to be important due to not only abundant resources but also mankinds’ security. However, these have been free of any national or international regulation. The absence of exclusive property right could lead to economic inefficiency and international conflicts. This inherent problem is put forth by Garrett Hardin in his famous article, The Tragedy of the Commons. In order to avoid these problems, many theories or principles are postulated. One of these principles is the principle of the common heritage of mankind (CHM). It has been accepted and applied to the global commons since it was incorporated into the United Nations Conventions on the Law of the Sea (UNCLOS). With improving technology and developing countries’ growing, the application of the CHM has been a source of controversy. Consequently, it is necessary to suggest the new principles for the governance of the global commons. This research investigates not only the common properties of global commons but also their existing governance.

First, we investigate issues of the deep seabed. For a long time the open access doctrine or mare liberum (free sea for everyone) of the high seas had ruled the governance of the deep seabed. But, UN adopted UNCLOS in 1982, and the CHM has been incorporated in the governance of the deep seabed. Based on UNCLOS, International Seabed Authority (ISA) was founded to manage the exploration and the development of mineral resources in the deep seabed. There have been conflicts between the leading countries which insist on their priority of natural resources they explored and found and the following countries which insist on suspension of development of natural resources in the deep seabed. ISA still suspends the development of mineral resources in the deep seabed, but it admits the priority of the leading countries if they explored two sector of the deep seabed and waive the one sector.

Second, this study analyzes the current issues of antarctica. Antarctica is facing rapid environmental degradation due to human pressures such as pollution, and the effects of global warming. Compared to the deep seabed, however, the governance of Antarctica has been stable and good at handling the major concerns of the protection of Antarctica. The governance of Antarctica works based on the Antarctic Treaty and related agreements, collectively called the Antarctic Treaty System (ATS). The reason of the stability of the governance of Antarctica is that all the participating countries agreed to the protection of Antarctica with no development of its resources. In addition, ATS has prohibited any country from claim to the sovereignty over Antarctica.

Third, outer space is interesting to investigate since there has been no organized governance. Since its inception after the launch of Sputink in 1958, the governance of outer space has been created and modified. The five principal space law treaties had been signed between 1967 and 1981. The initial establishment of the governance was not difficult, and the United Nations Committee on the Peaceful Uses of Outer Space (COPUOS) has been responsible for managing the governance. However, the governance of outer space underwent a more controversial development than the deep seabed and Antarctica. With fast growing technology of spaceship and its related parts, the governance should have been modified. but the conflicts between the leading countries and the following countries hinder from the development of the governance of outer space. Shortage of orbits of satellites and space debris created major problems in the use of outer space, but all the countries participating in the governance had not agreed to the management system of handling these new problems yet.

I . Introduction

II. Literature Review
1. Definition and concepts of CSR
2. CSR practices in global supply chains
3. The challenges facing SMEs in APEC

III. Current APEC Approach to CSR

IV. Review of CSR Policies and Approaches
1. Regulatory approaches
2. Capacity building approaches
3. Integrated approaches

V. Building a Framework for Joint Integrated CSR Initiative in APEC
1. Guiding approach and principles
2. Developing a joint integrated CSR initiative

VI. Concluding Remarks

The last decades have witnessed profound changes in the nature of production in the Asia-Pacific region as multinational corporations (MNCs) have pursued complex, cross-border production and distribution systems. This process has precipitated the integration of the APEC region through the emergence of global supply chains and global value chains. Increasingly connected global supply chains have created new opportunities for businesses, especially for small and medium-sized enterprises (SMEs) in developing economies of the region, as they become important suppliers for MNCs. However, the development of unprecedented levels of cross-border production sharing has also brought new challenges for both business managers and public policymakers.

In particular, the rise of corporate social responsibility (CSR) standards has created a new set of challenges for SMEs linked to global supply chains. A complex, multi-layered set of CSR standards concerning socially and environmentally sustainable business practices have been developed at international, national and local levels. An increasingly large number of MNCs have also started to demand that suppliers comply with corporate codes of conduct. The proliferation of CSR standards, global buyers’ requirements of supplier codes of conduct throughout their supply chains and various monitoring and audit mechanisms have created challenges for SMEs which tend to lack the capacity and resources to comply with new requirements. As the uptake of CSR has become a prerequisite to enter global supply chains in the region, SMEs which are unable to adopt CSR practices have been excluded from global supply chains.

SMEs are drivers of sustained economic growth in APEC economies. Building CSR capacity of SMEs for their effective participation in global supply chains is thus an important challenge many APEC members face. The objective of this paper is to examine and propose the ways in which APEC can assist SMEs in the region to build the capacity to adopt CSR practices and to improve linkages with regional and global supply chains. CSR has emerged as an APEC agenda only recently and has not been given top priority so far. Furthermore, the initiatives of APEC so far have largely relied on CSR capacity building in a narrow sense. While capacity building of enterprises to adopt CSR is essential, its effectiveness can be limited without a supporting policy or regulatory environment.

The paper reviews three strands of CSR policies and approaches – regulatory approach, capacity building approach, and integrated approach – with a view to drawing lessons and implications for a new framework for CSR initiatives in APEC. The regulatory approach highlights the importance of the legal and regulatory framework, which comprises of: 1) CSR guidelines and standards as ‘soft law’ instruments, and 2) binding, mandatory ‘hard law’ instruments such as national laws and regulations concerning human rights, labor standards and environment. The capacity building approaches focuses on assisting SMEs to implement CSR-based practices through various training and other capacity building programs and projects. There has been a more innovative approach to foster sustained improvement in CSR for enhanced competitiveness of a sector or region by integrating these two approaches. By addressing both the capacity of actors as well as the enabling environment in which they operate, the integrated approach has the potential to bring about a substantial change at a large scale.

Drawing on the lessons learned from previous initiatives, the paper proposes a comprehensive, multi-sector capacity building initiative for SMEs to be implemented across the APEC region. The initiative highlights the need to reconnect CSR and the public policy framework by adopting the integrated approach. The national policy framework with appropriate regulatory measures is needed to ensure that enterprises integrate CSR into their operations and core strategy. A key characteristic of this initiative is that it is based on the principle of shared responsibility of public and private sectors through public-private Partnership (PPP) which combines complementary capabilities and resources of both sectors. It should also be in line with international principles or norms concerning development assistance and partnerships, including the OECD DAC guidelines on strengthening trade capacity for development.

The joint integrated CSR initiative in APEC would consist of three parts: 1) legal and regulatory frameworks and national policies, 2) capacity building of managers, government officials and other stakeholders, and 3) promote innovation in CSR through partnerships. CSR is a relatively new agenda within APEC and thus a great deal of learning, innovation and creativity is necessary to generate new ideas, strategies and policies which will bring about genuine development outcomes for SMEs and other stakeholders. Therefore, it is important to provide incentives for innovative practices through multi-stakeholder partnerships.

Executive Summary
  
I. Introduction 

II. Literature on Determinants of International Migration

III. International Labor Migration to Korea 
1. Trends and Characteristics 
2. Labor Migration Policy 
3. Source Area Composition and Trade Links 

IV. Data and Model 
1. Data 
2. Empirical Model 

V. Empirical Results 

VI. Conclusion 

References 

Appendix 

Since the 1990s Korea has emerged as one of the major migration destinations in Asia. This paper represents one of the first attempts to examine the determinants of bilateral labor migration to Korea across source countries and over time. We analyze the effects of economic, demographic, and policy factors. We also examine the role played by trade between Korea and origin countries. The results suggest that economic fundamentals, including income level in Korea, as well as demographic factors both in origin countries and Korea, play an important role, while different patterns are observed for skilled and unskilled migrant workers. We also found that trade is an important predictor of the size and composition of foreign migrant population in Korea. We speculate that trade influences migration to Korea through the information effect and foreign labor policy channel.

Russia is important not only as one of the four major powers in Northeast Asia but also as a strategic economic partner for strengthening “Eurasia Cooperation.” The total trade volume between Korea and Russia is continuously growing. In 2012, it reached $ 22.4 billion, an all-time high level despite the global slowdown. However, given the size of the two economies, there are more rooms for cooperation though direct investment and diversifying trade structure.
In a bid to enhance Korea-Russia economic cooperation both in quantitative and qualitative ways, the authors selected electricity infrastructure and medical services industries as promising sectors considering interests of Korean investors and Russia’s recent industrial policies. The study carries out an in-depth analysis on the two industries and suggests ways to extend cooperation in the fields between Russia and Korea.
The study is consisted of five chapters. The first chapter introduces background and purpose of the study and previous research. Then, an overview on the Russian economy, industries and policies is presented in the second part.
In the third chapter, the structure, related policies and growth potential of the electricity infrastructure industry in Russia are discussed. Russia is no. 4 in the world in terms of electricity production and consumption. However, dilapidation of relevant facilities are lowering efficiency Responding to this, the Russian government has released “electricity modernization policy” and actively adopting measures to improve the situation. In the meantimes, international cooperation is also likely to be activated, which can be a chance for Korean companies.
In the fourth chapter, the structure and features, major industrial policies, international cooperation trends, and growth potential of the medical services sector are analyzed. The private medical services sector is growing rapidly in recent years. After the collapse of the Soviet Union, Russia suffered with deterioration of medical services and population decline. With the government’s policies and the middle-class’s pursuit for better medical services, international cooperation is going to be one of key factors for improvement. These recent trends can be an opportunity to Korean counterpart. For better collaboration, comprehensive strategy for the medical sector in Russia needs to be prepared.
The chapter five summarizes previous parts and presents challenges and measures to enhance cooperation in the electricity infrastructure and medical services sectors between Korea and Russia.

Microfinance and Financial Inclusion: Focusing on the Analysis of ODA Support Cases and Poverty Reduction Effects

Sungil Kwak and Ju Young Lee


The activities of Microfinance Institutes (MFIs) have important meanings in developing countries because MFIs not only serve as suppliers of financial service, such as savings, loans, remittance, and insurance, mainly to the poor and small and medium enterprises(SMEs) that cannot obtain credits from formal financial institutions because of lack of collaterals, but also make effort to increase financial demand through the provision of non-financial services, such as various capability building programs: letter education, fund management, and income earning. Therefore, ESCAP (2006) emphasizes that MFIs are a major tool for financial inclusion and a core element to the development of finance in an inclusive way. This study analyzes “ODA for microfinance” cases supported by Germany and Australia, and finds empirical evidence that the access to microfinance reduces poverty. Finally, the results from the study provide some policy implications when provision of ODA for microfinance sectors is considered.

We can summarize the results as follows. First, the aim of German's ODA support for microfinance sector is to promote developing countries' balanced economic growth by comprehensively fostering the financial sector. Most activities are performed in a macro perspective. On the other hands, Australia's supports are based on a micro perspective, since the supports are given after establishing the systematic aid strategies, such as introducing performance management systems considering financial/social aspects. Second, according to the results of the estimation, when the average MFI loan amount per person increased by 10%, the poverty rate defined as a headcount significantly decreased by 0.463%. This result is consistent with that of Imai et al. (2012). When the sizes of total MFI loan amounts compared to GDP which indicate the sizes of microfinance markets by country increased by 1%, the poverty rate defined as a head count significantly decreased by approximately 3.4%. Therefore, it can be concluded that increases in the number of MFI users contribute to poverty reduction.

The results from this study provide evidence that microfinace deserves to be supported by ODA. However, Korea has no experience of support for the area. Hence, Korea should evolve ODA policies considering the following risk factors. First, since most ODA recipient countries do not have the capability to promote financial development, “master plans for financial development” should be prepared for them based on Korea's experience. The experience in operating cooperative unions, such as agricultural cooperatives and the National Credit Union Federation of Korea, will give many implications to developing countries. Second, to enable MFIs to support more various non-financial services than before, not only simple ODA provision, but also technology provisions and even measures to link private businesses' participation in CSR should be considered. Through the foregoing, Korean financial institutions' advancement into developing countries may also be considered. Finally, although this study highlighted relatively more positive aspects of microfinance, poverty problems are not solved just by improvement of financial access. Since not only the improvement of financial access is a necessary condition-not a sufficient condition-for poverty reduction, but also negative effects of MFIs are reported as some MFIs have been commercialized, ODA support for microfinance should be appropriately determined considering these conditions. In particular, to avoid negative effects, the subject countries of the support should be carefully reviewed and assessed in advance.