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LEE Jong-Kyu

Korea-EU FTA Requires New Business Approach

LEE Jong-Kyu

Nov. 1, 2010

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Now that Korea and the European Union have officially signed their free trade agreement (FTA) there are expectations of robust sales by Korean companies but the absence of tariffs is no guarantee of success. They will need to carefully plot their operations and strategy in the next several months as the agreement does not need parliamentary ratification by all 27 EU member states. Provisional enforcement of the deal is set for July 1 next year, which is almost equivalent to full effectuation.

There is no doubt that the economic effects of the Korea-EU FTA, more than three years in the making, will be substantial. To be sure, they will likely exceed those expected from the Korea-US FTA, which remains in limbo awaiting ratification. The Korea-EU FTA would boost both imports and exports. In particular, it will foster a more advantageous export environment for Korea .

The average tariff rate at the EU is 5.6% while average rate of the US is 3.5%, meaning the effects of tariff rate reduction can be larger. Korea has maintained a trade surplus with the EU since the latter half of the 1990s, and expected exports to the EU due to the FTA are US$6.47 billion, while the EU exports are likely be US$6.34 billion, allowing the trade gap to continue.

So how will the economic benefits translate on business balance sheets? The trade deal will lift import tariffs on all industrial products within five years and Korea seven years. That will be especially beneficial to Korea 's flagship industries that have high export and import volume but must cope with lofty tariff rates. In particular, the tariff on cars will be eliminated within three to five years benefiting auto industries of both sides. The EU's industries in refined chemicals, parts and materials and large vehicles will become the largest beneficiaries.

In the service sector, the level of wider market access matches that of the Korea-US FTA and a "KORUS plus" for certain telecommunication and environmental service markets. The EU firms will likely make bigger forays particularly in the areas of finance, environment and telecommunication. In the agricultural sector, Korea secured special treatment on sensitive items such as rice and barley. On the other hand, Korean shoppers should expect an increase in pork and wine from the EU.

To take advantage of changing trade environment the Korea-EU FTA, Korean companies will have to anticipate and prepare assiduously. First, they cannot expect a universal approach will be effective. They will have to examine their competitiveness and division of labor to devise an individualized, strategic approach. Not everyone will be a winner. Industries that enjoy a higher competitive edge will be positioned to aggressively expand exports. Those hurt by the FTA may need to seek government support or mergers and acquisitions to survive. Where possible, labor can be divided with EU counterparts to reduce production costs and secure key competitive edge.

A second move goes to awareness. Since tariff reductions will provide more opportunities to cuts costs, companies should note the schedule of tariff reductions, allocating beforehand the cost saved on marketing or R&D investments. In the mid-to long term, this should be sought to increase market share in the EU.

Rules of origin also will require careful preparation. The regulations are designed to prevent goods from being made elsewhere and simply shipped from Korea or EU countries. Korean companies will need to install a system dedicated to the complex rules. When signing export contracts, they should check these rules, examine business feasibility and secure sufficient production process.

A fourth factor is non-tariff barriers. Despite the scope of the FTA, there is a possibility that non-tariff barriers such as rules for the use of components built on European soil, environmental regulations and technology standards will remain entrenched. Strict customs clearance procedures and regulations on companies outside the region can also be obstacles. Cooperation with EU companies will be needed to overcome these types of obstacles. For example, the EU has the largest renewable energy market in the world and leads the world in technology standards. Given this, Korean companies should collaborate with EU companies to accumulate know-how to deal with non-tariff barriers.

Finally, Korean companies, whether newcomers to the EU market or already established players, need to better understand the business environment in EU. The EU states are highly interdependent and consumer preferences in each member country create a myriad of markets across the region. This means that uniform products probably will fall short of sales targets.

European consumer spending amid the global financial crisis is also to be noted; it is cautious and measured. For example, while high-price pensions and home electronics are on the decline, shoppers are opting for low-priced goods. Sales of energy-saving products and compact cars have also risen. Korean companies will need differentiated and flexible business strategies based on the various needs.

The trade deal is the EU's first FTA with an Asian country. While it is the bridge between Korea and the world's largest economic bloc, it also has strategic importance in facilitating free trade pacts of Northeast Asian countries. The deal will not only have a positive on Korea 's export-led economy, it will help advance Korea 's economic structure to the next level and attract foreign capital. Such momentum of the FTA should not be wasted for Korean companies.

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