Tuesday, July 30, 2013

Death of a City: Lessons from Detroit

While Koreans have been focusing on former President Chun Doo-hwan’s art collection, missing presidential transcripts, and what might be or might not be misogynistic drunks abusing a woman, most Koreans remain blissfully unaware of a slow death that occurred far, far away from Korea’s borders; a death that Koreans should know and care about.

It wasn’t the death of a celebrity, or a politician, or an activist. It was the death of what was once a great city, a city that Koreans wanted to model their country after once upon a time. The great city that died had a name. Its name was Detroit.

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Detroit, once known as Motor City, where the world’s first great automakers were born – Ford Motor Company, General Motors, and Chrysler – was the symbol of American manufacturing and represented the American Dream. It was a metropolis that was once home to 1.9 million people but on July 18th 2013, Detroit filed the largest municipal bankruptcy case in U.S. History.

The economic and political similarities between Korea and Detroit are slim. Detroit’s population crashed when white Americans who were middle to high income earners moved away from the city to live in its suburban areas, leaving Detroit’s population mostly black and mostly poor. Korea, on the other hand, is nearly heterogeneous and its coming population crash will be because of age and low birth rates rather than anything else. Whereas Detroit’s manufacturing industry has all but plummeted, Korea’s manufacturing industry, though having slowed down recently, remains stable.

However, there are lessons that Korea can learn from Detroit’s mistakes.

1) Unions played a leading role in destroying Detroit; a similar fate awaits Korea

One of the most powerful unions in the United States is the United Auto Workers (UAW) and it is credited for having helped to create the American middle class by extracting high wages for its members in its negotiations with auto companies. Labor leaders claimed that those high wages gave workers financial stability that they otherwise would not have had.

Ironically, it was those high wages that forced auto companies to seek to move their production lines and factories outside of Detroit as entrepreneurs and business owners abandoned Detroit in favor of other areas, notably low-taxing, ‘right-to-work’ jurisdictions such as Texas, or to other countries altogether. The Motor City now only has one factory within its borders: Chrysler’s Jefferson North plant.

After the end of the Second World War, when American auto companies had little foreign competition to worry about, unions could afford to collectively bargain for higher wages for their members. However, in the modern world, where international competition is the norm, American auto makers could no longer remain competitive while paying tens of thousands of their employees exponentially higher wages than their international competitors did.

When those auto companies left Detroit for greener pastures, those union jobs that were so highly sought after disappeared.

Korea, for its part, saw massive economic growth from the 1960s to the 1980s through labor-intensive manufacturing – an economic plan that was enforced by the government with the intention of pursuing an export-oriented development strategy, which led to an industrial modernization that other developing countries are keenly studying. That economic growth that Korea enjoyed is now referred to as the “Miracle on the Han River.”

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Along with industrial modernization, Korea also saw the rise of unions. The two most powerful Korean umbrella groups, the Korean Confederation of Trade Unions (KCTU) and the Federation of Korean Trade Unions (FKTU), have long been responsible for engaging in fierce protests to such an extent that foreign multinational corporations almost always list militant unions as a major factor that prevent them from investing in Korea.

For example, on July 27th 2013, it was reported that even amid speculation that General Motors could be considering to reduce the size of its footprint in Korea, union workers participated in a 13-day partial strike in order to force General Motors to agree to pay each of its employees bonuses of up to ₩10 million (US$9,000) as well as promising not to have any layoffs at the plant. Never mind that this strike caused production losses and will make it even more expensive to manufacture cars in Korea.

Newton’s Third of Law of Motion states: “When one body exerts a force on a second body, the second body simultaneously exerts a force equal in magnitude and opposite in direction to that of the first body.” The same applies to international investments. As unions continue to secure lavish benefits for their members by treating companies as limitless cash cows, these elevated costs of employment will contribute to the ever-increasing cost of production. Furthermore, by threatening to use violence to get their way, more multinational corporations will reconsider investing in Korea and take their prized capital and knowledge with them.

Currently, with countries that have untapped labor resources such as Cambodia and Vietnam opening their borders to foreign investments, Korean workers cannot afford to make themselves less competitive in the international market.

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2) Detroit and Korea both have shrinking populations

Since the 1950s, as Southern blacks left their homes to settle in Detroit for the high-paying blue-collar jobs that were available in the auto industry, there began what is known as a “white flight,” as Detroit’s white population began to move out of the city and into the suburbs. This exodus accelerated in 1967 when a race riot broke out, which resulted in the deaths of 43 people and the injury of over a thousand people.

Detroit’s former mayor Coleman Young estimated in his autobiography, “Hard Stuff,” that Detroit lost 110,000 jobs in the decade after the riot.

In its heyday in the 1950s, 1.9 million people used to call Detroit their home. Now Detroit is home to a mere 700,000 people. Although much can be said about Detroit’s voluntary re-segregation and its social impact on race relations, such a topic will most likely be given lower priority as the much more immediate concern regarding Detroit’s plummeting population is that its shrinking tax base simply cannot support the massive pension debt obligations that the city has accrued over the decades or provide even a minimum level of city services such as utilities or law enforcement. In fact, it is estimated that nearly half of Detroit’s debt is to underfunded pension plans and retirees with the bulk of the remaining debts owed to municipal bondholders.

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The city of Detroit and its school system, which are now the biggest employers in the city, is now supporting more retirees than it has workers, with 18,000 retirees to the city’s 10,000 active public employees.

The characteristic of Korea’s population decline is certainly different from Detroit’s. However, Korea faces similar eventualities as Detroit faces due to a shrinking population.

Due to reasons such as low birth rates among Koreans and Korea’s rapidly aging population, more people are reaching retirement age and will no longer be economically productive. In conjunction with falling birthrates and an aging population, it means that social systems can no longer be nearly as well financed under the current tax system.

The Korean government is thus far attempting to deal with Korea’s economic problems by introducing economic stimulus programs. However, it was reported that Korea’s debt-to-GDP ratio for 2012 stood at 283 percent, an appalling figure that far surpasses the level that Korea reached before the euphemistically called “IMF Crisis” of 1997. As the population ages, the Korean government will have no choice but to continue to borrow more money, which means that Korea’s debt will keep growing – and is, in fact, already much higher than Greece’s debt-to-GDP ratio of 157 percent.

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Further exacerbating Korea’s population decline is the rising number of highly skilled Koreans who are willing to emigrate and not ever return. From 2000 to 2003, the ratio of Korean citizens who obtained U.S. doctoral degrees who did not return to Korea upon completion of their education rose to 46.3 percent. From 1992 to 1995, only 20.2 percent remained overseas permanently. The National Science Foundation Network in the United States conducted a study in 2004 that showed 73.9% of Korean doctoral degree holders in the U.S. were planning to remain in the U.S.

With the Korean government deciding to dedicate more of the country’s budget on social welfare and public construction projects and paving the way to update and redesign welfare policies every five years, which can only mean an inevitable increase in the number of civil servants and bureaucrats, while at the same time failing to combat low birth rates, looming pension disaster, having no real long-term solutions to reverse Korea’s brain drain, and also failing to fully liberalize Korea’s immigration policies or help immigrants to thrive once they arrive in Korea or combating pathological racism, the future does not bode well.

3) Uncontrolled public spending sunk Detroit’s budget; and it also threatens Korea’s

Despite Detroit’s shrinking population and its sordid finances (at the time of declaring bankruptcy, Detroit’s city officials declared that the city was in debt of up to US$18 billion and that it had unfunded pension liabilities of up to US$3.5 billion), 21,000 Detroit retirees still receive about US$1,600 a month.

Detroit cannot afford to pay its retirees what it promised them. It is certainly unjust to the people who were promised a pension but the reality is that there is no money. And those pensioners do not seem to wish to let something as petty as reality get in their way of being paid with non-existent money, as was shown by a judge’s ruling that Detroit’s bankruptcy filing violated the Michigan Constitution, which bans any action that threatens to cut the pension benefits of public employees.

Although Detroit has one of the highest income tax rates in the U.S. (most likely levied such high rates because the city government needed to boost tax revenue amid falling population rates), such measures were not enough to help pay for Detroit’s excessive spending. For instance, in 2011, Detroit employed about twice as many municipal employees per capita as cities with comparable populations. It failed to attract or retain businesses as it continued to push for populist policies such as favoring unions as opposed to free trade (Detroit has 48 unions!) and funding needless public projects such as stadium subsidies whose promises of future economic growth are dubious at best.

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As stated earlier, the Korean government has decided to dedicate more of the country’s budget on social welfare and public construction projects. For example, there are currently fourteen regions that are planning to construct dams or are already in the process of building one. It has promised higher state pensions, additional childcare funding, and has pledged to invest ₩33.9 trillion on “economic revitalization” measures, including ₩9.4 trillion to build new inner-city rental housing and an additional ₩8.1 trillion on research and development.

In 2007, it was estimated that the Korean government’s national expenditures as a percentage of its total GDP stood at around 29.3 percent. Considering the recent pledges that have been made by the conservative ruling party, which hardly seems conservative at all in its economic views, that figure has to be much higher now and will become even higher in the future.

But, of course, all of these expenditures have been calculated and pledged with one assumption that is seldom ever mentioned. They are based on the assumption that the North Korean government might not some day implode.

A long term process of rabid unionism, de-population, and public spending of this magnitude, which promises fewer local economic interactions to sustain a vibrant market economy, and a smaller revenue base with which to provide core government services, inevitably spells trouble. It did for Detroit and unless mitigated, a similar fate awaits Korea.

Unless unions can learn that their demands for better wages and employment conditions ought to be be grounded on solid evidence of improved workplace productivity and the reality of economic conditions, further legal steps ought to be taken to limit the power of unions. Means such as passing legislation that allow union members to avoid paying dues in order to limit the near monopolistic power held by unions, establish and enforce “right-to-work” laws, calling out minimum wage laws as unions’ less-than-altruistic attempt to protect their own members from competition as minimum wage laws increase the expense of hiring unskilled workers, which makes hiring skilled union members more attractive and could raise the earnings of union members who compete with minimum wage workers.

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Active steps ought to be taken to reverse the current low birth rates among Koreans, reverse Korea’s brain drain, and attract immigrants to Korea. In order to reverse low birth rates, as a short-term solution, the government ought to grant special tax breaks for families with more than one child. However, the long-term solution is to lessen the perception of overly expensive college education as being prerequisite for economic success and promoting technical training for specific fields that are required in the manufacturing industry.

Furthermore, the anticipated depletion of the country’s pension system, coupled with the lessons of relying on the state for pension payments as provided by Greece and Detroit ought to tell the government that there are two possible solutions to this. Firstly, the government has to make a bipartisan decision, as unpopular as it will be, to raise the retirement age even under the threat of being voted out of office by the welfare-state addicted public. Secondly, Koreans ought to begin to get used to the idea of investing in tax-deductible mutual funds and private pension plans.

In order to reverse Korea’s brain drain, the government ought to reward returnees with bonuses and tax breaks, encourage universities to invest more in research projects, guarantee greater academic freedom, and reform higher education in order to improve and strengthen the colleges, universities, and research institutes in Korea.

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And in order to attract immigrants to Korea, the Korean government ought to encourage the renunciation of ethnic-nationalism, incorporate qualified individuals from various ethnic and cultural backgrounds into various levels of public administration in order to integrate immigrants into Korean society more effectively, offer legal services to people with visa-related questions and connect them with local businesses and community groups that are interested in hiring or helping them, connect low-income immigrant and minority entrepreneurs with lenders who offer loans without collateral, and offer to first and second generation immigrants classes that focus on teaching the Korean language.

For its part, the government ought to cut taxes across the board, streamline regulations, and create business-friendly environments (something that Detroit failed miserably at doing) without resorting to corporate welfare such as granting subsidies.

What happened in Detroit was proof that the laws of economics and reality cannot long be ignored without fear of repercussions. We can try to avoid reality, but we cannot avoid the consequences of avoiding reality. And the city’s decay – physically, financially, and morally – was a tragedy precisely because it was a tragedy that could have been avoided.

To safeguard our prosperity and our posterity, Koreans should be economically mindful of doing everything that Detroit failed to do.

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  1. This is all nonsense. What killed Detroit was white flight and the black displacement of the white population.

    The lesson of Detroit for Korea is this: reject the promotion of immigration, multiculturalism, "diversity", etc. peddled by liberals and globalists.

  2. Only tangentially related, but have you seen the latest video by K-pop group B.A.P., which uses an abandoned, crumbling Detroit as its setting? http://www.youtube.com/watch?v=KLHY_7PgaV0

    1. I'll be honest, I have never heard of B.A.P. I'm more a Frank Sinatra kind of guy.

  3. Predictably, General Motors has decided to reduce the number of automobiles produced in Korea. Unions are going to ruin Korea's economy.


  4. Ulsan is the better Detroit comparison, not "Korea, Inc." in general.

  5. Detroitification is a real effect. The race issues clouds real economic effects and actions that lef to the city's collapse. Those economic misalignments are commonplace.

    Much of this devolves not to capitalism or socialism or whatever. It's just accounting. You can't spend more than you take in and prosper. That's as basic as it gets. And if you steal what people warn for nebulous "communal goals", people will earn less and be inspired to earn less. These things are not controversial.

    1. Agreed. It was certainly a case of more money going out than money coming in, which was caused by politics.