For more information, see Republic of Korea and the IMF

The following item is a Letter of Intent of the government of Korea, which describes the policies that Korea intends to implement in the context of its request for financial support from the IMF. The document, which is the property of Korea, is being made available on the IMF website by agreement with the member as a service to users of the IMF website.

Seoul, Korea, November 24, 1999

Mr. Michel Camdessus
Managing Director
International Monetary Fund
Washington, D.C. 20431

Dear Mr. Camdessus:

1.  Under the strong and democratic leadership of President Kim Dae-jung, the Korean economy has staged a remarkable rebound since entering into a stand-by arrangement with the IMF in December 1997. This dramatic turnaround is evident on a number of fronts: growth has recovered sharply in 1999, the unemployment rate has fallen, investment is picking up, export growth is strong, and there has been a significant increase in usable foreign exchange reserves to more than $68 billion. At the same time, inflation remains subdued. Bolstered by the strengthening of the external situation, Korea has repurchased funds drawn under the SRF ahead of schedule, and its sovereign credit rating has been raised to investment grade.

2.  The economic recovery has been aided by the progressive lowering of interest rates and fiscal stimulus. In addition, the efforts made by the government to expand the social safety net have helped reinforce social stability. Two supplementary budgets have been introduced in 1999, and the consolidated central government budget deficit is now targeted to be about 4 percent of GDP in 1999. With the economic recovery now underway, the process of rebalancing macroeconomic policies is to begin with the 2000 budget that was recently submitted to Parliament. Next year's budget therefore envisages a reduction in the primary balance of the consolidated central government by about 1-1 percent of GDP.

3.  Good progress has been made in consolidating and recapitalizing the banking system, and reforms in the financial sector will increasingly focus on operational improvements. The government has signed terms of investment with Newbridge Capital for the sale of a majority stake in Korea First Bank. Efforts are also being made to find an international team, including a chief executive officer, to take management control of Seoul Bank with a view to preparing it for privatization. The independence and autonomy of the Financial Supervisory Commission have been enhanced through revisions to the Government Organization Act. New loan classification and provisioning guidelines based on forward looking criteria will be implemented by the end of 1999.

4.  Greater emphasis is now being put on reforming nonbank financial institutions. In this connection, the government recognizes that reform of the investment trust industry is critical. A comprehensive package of measures is thus being implemented with the aim of putting this sector on a sound financial footing, strengthening its regulation and supervision, and addressing its immediate liquidity problems.

5.  The government reiterates its strong commitment to the process of corporate restructuring. The dismantling of the Daewoo group is a major breakthrough in this regard. Restructuring of the other top-5 chaebol will be accelerated; these corporations will be required to complete their restructuring in a way that allows them to focus their resources on core businesses. For the chaebol ranked 6-64, the debt workout framework is being strengthened with the assistance of the World Bank and a large number of workouts are underway. The relationship between business and labor is now much more stable. In the public sector, a number of public enterprises have been privatized or restructured, and many government bodies have been downsized.

6.  Korea's economic policy priorities in the period ahead are to broaden the ongoing economic recovery and to complete structural reforms so as to lay the foundation for sustainable economic growth and an enduring reduction in unemployment. To this end, the Bank of Korea has announced its intention to maintain the current stance of monetary policy for the time being while remaining vigilant to the possible emergence of inflationary pressures. As noted above, the process of medium-term fiscal consolidation is set to begin with the budget for 2000.

7.  The attached Memorandum on Economic Policies for the Sixth Review outlines the major policies for the coming months and updates the Memorandum on Economic Policies of March 11, 1999. The government's corporate restructuring program, which has been agreed with the World Bank in the context of a proposed Corporate and Financial Sector Restructuring Loan, is attached to the Memorandum on Economic Policies. During this review, the IMF and Korea agreed to revise Korea's macroeconomic outlook to reflect the swifter-than-expected recovery. In addition, both quantitative and structural performance criteria have been set for the period through May 2000. The Korean government will continue to work in close collaboration with the Fund.

8.  Future reviews under the stand-by arrangement will continue to take place semi-annually.

Chol-Hwan Chon
Bank of Korea
Kang Bong-Kyun
Minister of Finance and Economy


Korea: Memorandum on Economic Policies

Macroeconomic Policies

Objectives and outlook
Economic policies aim to:
• Support and broaden the ongoing economic recovery;
• further advance financial sector and corporate restructuring in order to sustain growth and achieve an enduring reduction in unemployment over the medium term; and
• ensure that the social safety net is adequately mitigating the hardship of the unemployed.
  • During 1999, GDP growth is expected to rebound to 8-9 percent, with average inflation of less than 1 percent. The current account surplus is forecast to be around 6 percent of GDP.
• Macroeconomic projections for 2000 are for GDP growth in the range of 5-6 percent; inflation to pick up slightly but to remain around 3 percent; and the current account balance to continue to narrow but remain in surplus.
Monetary and exchange rate policy
• Under current circumstances, it is envisaged that the present low interest rate policy will be maintained for the time being. Looking ahead, monetary policy may need to be adjusted to address possible inflationary pressures as the degree of slack in the economy is reduced.
• Exchange rate policy will remain flexible. BOK intervention in the foreign exchange market will be limited to smoothing operations consistent with a further build-up in usable reserves.
BOK foreign exchange window
• The BOK foreign exchange window was closed effective May 15, 1998. Of the $3.6 billion in emergency loans outstanding at end-1998, $2.4 billion was repaid by October 1999. The $1.2 billion balance is outstanding with the bridge merchant bank.
Fiscal policy in 1999
In order to support economic activity and provide further safety net assistance, two supplementary budgets were announced in 1999. The deficit target for 1999 is now around 4 percent of GDP. Revenues (including privatization receipts) are projected to rise to about 23 percent of GDP and expenditures are expected to increase to about 27 percent of GDP.
• With the March supplementary budget (which included additional social safety net spending), the fiscal deficit target for 1999 was raised to 5.2 percent of GDP.
• In the wake of stronger-than-expected economic growth and the resulting higher revenues, as well as higher privatization receipts, the deficit was projected to decline to about 3 percent of GDP. A second supplementary budget was approved by the National Assembly in August and utilizes a portion of the budgetary savings by providing an income tax cut for salaried workers, greater assistance to lower- and middle-income families, and extra outlays for flood relief.
• Budgetary capital expenditure was front loaded in the first half of 1999, as envisaged under the program.
Social safety net
The government will maintain its commitment to providing a social safety net adequate to protect those most exposed to the effects of the financial crisis. Taking into account the two supplementary budgets and the strong economic recovery, direct social safety net outlays are projected to rise to about 2 percent of GDP in 1999.
• Spending on public works in the first half of the year has risen to W 1.2 trillion, out of a total budget allocation of W 2.7 trillion and has provided employment for an average of 420,000 people per quarter.
• With the widening of the unemployment insurance system in October 1998 to include firms with less than 5 workers, the coverage of the system has been increased to 70 percent of wage workers. As of June 1999, 82 percent of such firms had enrolled in the scheme; the government will make efforts to raise enrollment as much as possible by the end of the year.
• The long-term unemployed are receiving continued assistance from public works programs, government training schemes, and measures to provide financial assistance to employers who hire the long-term unemployed.
The government will continue to ensure that funding for temporary livelihood protection and public works programs is adequate in light of developments in unemployment. It is expected, however, that starting from the year 2000, it should be possible to move social safety net spending away from government-financed direct provision of employment and instead put a greater focus on improving the opportunities for the unemployed.
The 2000 budget
With the economic recovery under way, the primary focus of fiscal policy in 2000 will shift towards a process of medium-term fiscal consolidation. To this end, the government has targeted a consolidated central government deficit of 3 percent of GDP. This target includes the operations of the civil service pension fund, which from 2000 will be consolidated with the central government budget in order to improve fiscal coverage. The implied adjustment of the primary balance in 2000, under comparable definitions for both years, is about 1-1  percent of GDP.
Within this budgetary envelope, the government intends to increase civil service salaries and expand social safety net protection for the very lowest income groups. Some of the structural measures to reform the tax system that are outlined below will also begin to be introduced in 2000.
Medium-term fiscal program
In light of the stronger-than-expected economic recovery in 1999, the timetable for the government's medium-term fiscal objectives of a balanced fiscal position will be advanced to 2004 from 2006 in the earlier plan. A revised medium-term fiscal program will be announced in the context of the 2000 budget and the government will regularly update its medium-term fiscal plan thereafter.
Structural reforms of the tax system
The government recognizes the need to simplify the system of taxation and enhance tax administration to meet its redistribution and equity objectives. To this end the government intends to:
• Enhance the equity between self-employed businesses and salaried workers through a strengthening of tax administration aimed at reducing tax avoidance and evasion by the self-employed.
• Reduce the scope and number of incentives and preferences in both direct and indirect taxes.
• Simplify the special VAT regime for small businesses.
• Establish a system to relieve double taxation of dividends in line with international practice.
• Transform the filing system for capital gains tax to one of self-assessment.
• Introduce a functional organization structure for the National Tax Administration.
• Increase public understanding of the tax system by simplifying tax laws and regulations and providing greater resources for taxpayer informational and advisory services.
Consistent with these objectives, the 2000 budget contains measures to simplify the VAT regime for small businesses, streamline the excise taxation system, simplify the system of exemptions on personal income taxes, rationalize inheritance and gift taxes, and unify the withholding tax on dividend and interest income in preparation for the introduction of a comprehensive income tax on dividends and interest income in 2001.
  Beginning in 1997, financial institutions were allowed to deduct from taxable income the provisioning for loan losses made in accordance with financial regulations. This deduction was due to expire at the end of 1999. However, a bill for extending the deduction period through the end of 2000 was submitted to the National Assembly in October. The authorities are reviewing the possibility of making the deduction permanent.
Temporary assistance to credit- constrained enterprises
Through mid-1999, trade financing of $3.3 billion was available on commercial terms to small- and medium-sized enterprises, and larger enterprises not affiliated with the top five chaebol, for maturities of up to one year.
• Of the $3 billion for import financing (including $1 billion financed through the World Bank's SAL, and a further $2 billion provided by the BOK from reserves in excess of program targets), $2.65 billion has been used. The facility was set up as a means of temporary assistance to small- and medium-sized enterprises. Given the improvement in market conditions and credit availability, the facility is no longer necessary and was closed effective August 23, 1999.
• The temporary facility (amounting to $0.3 billion) to finance BOK rediscount of export bills for small- and medium-sized enterprises was closed effective August 17, 1999.
The government is proceeding with its plans to privatize 11 state-owned enterprises and their subsidiaries (which in March 1998 accounted for about 75 percent of employment in public enterprise and about 60 percent of sales).
• The National Textbook Company, Korea Technology Banking Corporation, and Namhae Chemical Corporation have been privatized.
• The sale of a 5.8 percent share in POSCO reduced public ownership to a 20.8 percent share in 1998. Of the latter amount, 8 percent was offered to overseas investors in July 1999, and the remaining shares will be sold to domestic investors by end-1999.
• The sale of Korea Heavy Industries (Hanjung) will take place after the consolidation of the ship engine and power generating machinery industries. Agreements were reached on November 15, 1999 for the sale of these parts of Samsung and Hyundai to Korea Heavy Industries. The next stage envisages the invitation of bids for shares in Korea Heavy Industries before end-1999.
• Korea General Chemicals will be liquidated and assets will be sold.
• Generation operations will be separated from KEPCO and divided into several power generation companies. After this, KEPCO will sell a power generation company and two combined heat and power plants through public auction in the second half of 1999.
• Korea Telecom was publicly listed and a 14 percent stake in the company has been sold. The government will reduce its share in the company to 33.4 percent by 2000.
• Full privatization of four other state-owned enterprises (Korea Tobacco and Ginseng, Korea Gas, Daehan Oil Pipeline, Korea District Heating) will occur in phases over the next three years. Korea Tobacco and Ginseng was publicly listed and a 18 percent stake in the company has been sold.

Financial Sector Restructuring1

Type of measure



Commercial banks
The FSC will continue to monitor the capital ratios, CAMELS, and CAEL ratings of all commercial banks in order to provide an early indication of problems.
  Banks will be required to increase capital on account of:
(i) Supervisory examinations leading to a reclassification of assets;
(ii) Any further deterioration in asset quality; and
(iii) The strengthening of supervisory rules and procedures (including the forthcoming new loan classification guidelines).
  All banks will be required to meet at least the minimum capital ratio of 8 percent and encouraged to increase their capital ratios to 10 percent by December 2000.
  If the capital adequacy ratio of a bank which had been above 8 percent falls below that level subsequently, the FSC will invoke the prompt corrective action (PCA) procedures. Similarly, if the CAMELS or CAEL ratings of a bank becomes 3 or worse, the FSC will adopt appropriate supervisory actions, including the PCA procedures.
Government-owned commercial banks
Terms of investment for the sale of a 51 percent stake in Korea First Bank to Newbridge Capital were agreed on September 17, 1999. The next steps of converting the terms of investment into a definitive legal agreement and completing the transaction will be done as soon as possible.
  An international firm (Morgan Stanley) has been engaged to find a high caliber international CEO and management team as soon as possible. Assuming an appropriate CEO and management team are found, they would take management control of Seoul Bank before the end of 1999. The international CEO's mandate will include preparing the bank for privatization within 6 months, including the possibility of finding an international bank willing to be a strategic partner, and who would be offered an option to buy a controlling share of the bank at a later date. This timetable for privatization may require setting up a facility to handle Seoul Bank's problem assets. Concurrently with the efforts to search for an international management team, the authorities will seek, with the assistance of Morgan Stanley, a new buyer or a strategic partner in order to privatize Seoul Bank.
  The government will announce a strategy for the divestiture of government and BOK shares in commercial banks.
March 31, 2000
  While under government ownership, the banks will be operated on a fully commercial basis and the government will not be involved in the day-to-day management.
Use of public funds for financial sector restructuring
The government will ensure that sufficient public funds are allocated for the purpose of financial restructuring. Following the reallocation of borrowing authority between KAMCO (Nonperforming Assets (NPA) Fund) and KDIC, the government will ensure that the two agencies have adequate resources, including through borrowing, recoveries by KAMCO (NPA Fund), and the proceeds of prospective sales of government-owned shares in financial institutions.
  The KDIC will review the Deposit Insurance Scheme and prepare a plan to ensure a smooth transition to limited deposit insurance once the blanket deposit guarantee expires in December 2000.
December 31, 1999
  Public funds should only be used to the extent necessary to facilitate the liquidation of failed institutions and the restructuring of weak but viable banks. Determination of viability by the FSC (using outside expertise as necessary) will be a precondition for the use of public funds. In addition, restructuring which involves the use of public funds should be limited to:
• private sector recapitalization and mergers approved by the FSC, where there is adequate burden sharing, which would be expected to involve contributions of capital from existing or new shareholders, and/or other stakeholders; or
• purchase and assumption (P&A) transactions; or
• direct recapitalization by the government with full write down of shareholder capital and replacement of management, in exceptional cases and where a bank is of systemic importance.
  Government and KDIC funds can only be used, either to inject capital directly (including contributions to cover the deficiency in net worth in P&A transactions) or to purchase impaired assets through KAMCO (NPA Fund).
In order to enhance the incentives for banks to participate fully in the corporate restructuring process, no public funds, whether by way of KAMCO (NPA Fund) purchases or capital injections or other means, shall be made available to banks which are not certified by the FSC to be performing their role in the corporate sector restructuring process. In addition, no public funds will be made available to any bank that is not in compliance with the timetable on the reduction of large exposure limits set out below. Exceptions will be made, in consultation with the Fund, only in emergency cases or when public support is required to complete a merger or P&A transaction.

• KAMCO's role will be limited to the purchase, management, and sale of nonperforming assets from commercial banks and other financial institutions where there is a deposit guarantee. In exceptional cases, asset purchase may be made from other institutions if failure of these financial institutions poses a systemic risk. Any such purchases would be made in the context of a comprehensive restructuring plan for the relevant sector. In order to minimize its borrowing requirement, KAMCO will accelerate the sale of the NPA Fund's assets.
  • Purchases should be at prices that reflect actual and expected recovery rates as well as funding costs, and at minimal prices for unsecured loans.
  • KAMCO's NPA Fund performance, in particular as regards asset acquisition and recovery, will be subject to a half- yearly audit in accordance with the Korean Accounting Standards which were revised on December 11, 1998, by a firm with international experience in auditing this type of agency and in the valuation of impaired assets. The results of the reviews and any qualifications will be published. Any losses identified will be reflected in KAMCO's NPA Fund audited financial statements.
  • KAMCO will remedy the deficiencies identified by external auditors in the 1998 NPA Fund accounts to ensure that the 1999 accounts are prepared using standards in accordance with the Korean Accounting Standards of December 11, 1998 (which are to be enhanced as described below in the section on disclosure, auditing, and accounting standards), and result in an unqualified audit.
April 30, 2000
  Capital subscriptions by the government, KDIC or any other government agency involved in financial sector restructuring should be on terms that provide the authorities with a share in any improvement in profitability and give the authorities powers, e.g., by the exercise of conversion rights, to take control in the event of a deterioration.
Merchant banks
Merchant banks are required to adopt, with effect from the year beginning April 1, 1999, the same accounting standards as commercial banks based on IAS and U.S. GAAP. From June 2000, the loan classification, provisioning rules, and capital adequacy computation rules used for commercial banks at that time will be introduced, after which merchant banks will be subject to prudential regulations that are consistent with those for commercial banks.
June 30, 2000
  Merchant banks should maintain ratios of at least 8 percent and will be encouraged to reach 10 percent by September 30, 2000. However, those merchant banks whose CAR falls below these targets because of realized losses associated with corporate restructuring agreements completed by June 30, 1999, will be treated as follows:
• First, those that maintain a CAR above 2 percent, but can reach the 6 and 8 percent targets when losses on corporate restructuring agreements are deferred in calculating regulatory capital, will be required to submit a rehabilitation plan, acceptable to the FSC, to write off these losses in equal quarterly installments over the period ending March 31, 2002. These banks will be debarred from international business, and subject to restrictions on asset growth and new business.
• Second, those with negative equity will be subject to closure. This will involve immediate suspension followed by a diagnostic assessment of their net worth by a qualified accounting firm to be concluded within two months. If the bank is confirmed to be insolvent and cannot be recapitalized within 30 days, it will be closed forthwith.
• Third, all those merchant banks which do not fall under the two previous categories will be subject to PCA.
Restructuring of investment trust companies
(ITCs and ITMCs)
The FSC will conduct ongoing examinations and reviews of all IT(M)Cs and the funds they manage. Such reviews will include an assessment of the companies' capacity to cover losses from Daewoo and other factors.
The FSC will take the action necessary to ensure that IT(M)Cs maintain adequate capital.
  Proposals for the management and return to the private sector of the business of Korea Investment Trust and Daehan Investment Trust will be prepared. While the government retains a shareholding, it will ensure that the companies are managed on a sound commercial basis.
June 30, 2000
  As already announced, no investments will be made in funds which are not marked-to-market.
From July 1, 2000
  Money market funds (except for government securities and monetary stabilization bonds) will limit the remaining maturity of all assets to 12 months and the weighted average maturity of those assets to 90 days. Furthermore, these funds will limit their portfolio to securities issued or guaranteed by the government and regulated financial institutions, and other issues rated as investment grade. No new investment will be permitted in funds that do not meet the above criteria.
January 31, 2000
Governance and Supervision of IT(M)Cs
IT(M)Cs managing funds in excess of W 2 trillion will be required to appoint non-executive directors, audit committees, and compliance officers to ensure that managements act in accordance with their responsibilities to investors.
April 1, 2000
  The FSC will further strengthen rules minimizing the potential for conflicts of interest between IT(M)Cs and related companies.
April 1, 2000
IT(M)Cs will be required to disclose to investors the investment guidelines and strategies under which specific funds will be managed. IT(M)Cs will also disclose market valuations of marked-to-market funds under management daily and provide details of performance upon investors' request.
April 1, 2000
  The FSC will encourage independent evaluations of managers' performance to be made available to investors.
April 1, 2000
  External audits of IT(M)Cs' investment funds will be carried out on an annual basis. Audited accounts will be made available to fund investors.
Ongoing (starting April 1, 2000)
  Transactions between funds will be prohibited, except specific transactions approved by FSC on an exceptional basis.
December 31, 1999
  The FSC will penalize trustees which fail to undertake their responsibilities to require managers' to act solely in accordance with investors' interests.
March 31, 2000
  The FSC will ensure that advertising and sales practices are such that investors appreciate that the risks of investing in IT(M)C managed funds are born solely by investors.
March 31, 2000
Restructuring of life insurance companies
The FSC is making every effort to complete the resolution of the 7 distressed life insurance companies up for sale.
  All life insurance companies, except those which submitted rehabilitation plans in 1998, are required to meet the announced EU solvency margin requirement to be phased in over the period September 1999 to March 2004. The solvency margin will be calculated based on the new loan provisioning requirement.
Ongoing, starting September 1999
  Companies which submitted rehabilitation plans in 1998 are required to meet the same EU solvency margin requirement by December 2000.
December 31, 2000
  Insurance companies which fail to meet the required solvency margin thresholds will be subject to Prompt Corrective Action.
  Insurance companies will be discouraged from selling policies whose assumed expense ratios are out of line with recent experience by the introduction of minimum standard reserve and surrender value systems in the context of the deregulation referred to below.
April 1, 2000
The FSC will undertake a study of reserving and the determination of cash surrender values with international actuarial consultants, to be completed by end-December, 1999.
December 31, 1999
  The FSC will implement complete deregulation of interest rate and loading ratio controls for all life insurance and long-term non-life insurance products.
April 1, 2000
Investment guidelines for insurance companies
Insurance companies are allowed to hold no more than 30 percent of their assets in equities.
  Insurance companies will be prohibited from holding more than 15 percent of their assets in real estate and more than 5 percent in any one property. Companies with single properties in excess of 5 percent at end-March 2000 may retain such assets, but not acquire new assets that will raise their holdings in any one property above 5 percent.
April 1, 2000
  Review lending by insurance companies to nonpolicy holders with a view to setting maximum limits on such lending consistent with international best practice and establishing a timetable for a reduction of the excess over the maximum limits. Implementation of the phased reduction will begin no later than June 30, 2000, and the FSC will consult with the IMF on the implementation timetable beyond that date.
December 31, 1999 for recommen-
dations from the review, and June 30, 2000 to start implementation.
Corporate governance for insurance companies
The FSC will undertake a study of corporate governance for insurance companies and will subsequently make new regulations to strengthen the roles of actuaries, auditors and non-executive directors.
December 31, 1999
  The FSC will issue minimum guidelines regarding corporate governance, which will include appointing non executive directors to the board of directors, establishing an audit committee of which at least two thirds would be non-executive directors to whom internal and external auditors report, and establishing risk management committees.
March 31, 2000
1These measures have been formulated in close collaboration with both the IMF and the World Bank.

Prudential Regulations and Supervision

Type of measure



Financial transactions between affiliates
The FSC will review all bank and nonbank financial institutions' legislation and regulation regarding transactions between affiliated companies and their shareholders.
The underlying principles that will be enshrined in legislation, regulations, and supervisory practice, will ensure that:
• All lending to shareholders and affiliated companies should be done on an "arm's length" basis, is a prudent use of the lending institution's resources, is performing, and can be shown to have been done on market terms and conditions.
• Transactions between proprietary funds and funds managed for customers will be prohibited, nor should financial institutions pledge such funds as collateral.
• Any financial transactions between affiliated companies, or between institutions and their shareholders, should be confined to transactions in assets for which readily ascertainable market prices exist, and should be done at market prices.
• All related party transactions should be disclosed in audited accounts and reported to the FSC, to shareholders, and to the beneficial owners of the funds.
December 31, 1999
Prudential regulations for commercial, merchant and specialized and development banks
The FSC will continue to update its regulations and procedures to bring them closer to international best practice as expressed in the Basle Committee's Core Principles.
  The FSC will issue revised guidelines for the classification and provisioning for loans, guarantees and commitments based on forward looking criteria that fully reflect capacity to service all obligations and not just past performance.
Issued on September 17, 1999 for all institutions except merchant banks for which revised regulations will be issued by December 31, 1999.
Financial Supervisory Service (FSS) examiners will ensure banks classify loans, guarantees and commitments and assign provisions according to the new guidelines on a trial basis. These guidelines will come into full force effective December 31, 1999 for commercial, specialized and development banks, and June 30, 2000 for merchant banks.
During the second half of 1999
From April 1, 2000 for merchant banks.
  Audited financial statements will be required to reflect the valuation of assets according to the new forward looking criteria and the new accounting standards. With respect to merchant banks this will be achieved in the unaudited accounts for the half year ending September 2000.
December 31, 1999
Except for merchant banks September 2000
  Consistent with forward looking criteria, the FSC will ensure that the classification and provisioning of assets which are subject to workout arrangements and restructured assets are done on a prudent basis, reflecting the weaknesses that gave rise to the need for restructuring or renegotiating, and any doubts that remain about the ability of the borrower to perform under the agreement.
With effect from December 31, 1999 and from September 30, 2000 for merchant banks
  A bank may opt to defer a part of the increase in provisions consequent on implementation of the new guidelines. Such a bank would be required to charge at least 50 percent of the additional provisions in the December 31,1999 financial statements, and the remainder in the December 31, 2000 financial statements. Any bank opting to defer the required provisioning in this manner would publish the amount of provisions required, but not made, in its annual financial statements, together with a calculation of what its capital ratio would have been had full provision been made, and this would be reflected in the external auditors' report.
With effect from December 31, 1999, and ending December 31, 2000
Equity and convertible debt issued in exchange for debt will be valued conservatively, taking into account any restrictions on sale and marketability.
  For capital adequacy purposes, assets in all trust accounts with guarantees will be treated the same way as assets in the bank.
January 1, 2000
  Restrictive rules will be applied to all trust accounts ensuring segregation for management as well as accounting purposes.
January 1, 2000
Prudential rules for foreign exchange liquidity and exposures
Compliance with existing guidelines that require commercial banks to have:
• Short term assets (less than 3 months) of at least 70 percent of short term liabilities;
• Long term borrowing (more than 3 years) in excess of 50 percent of long-term assets. (This guideline applies to merchant banks as well.)
  Merchant banks to have short-term assets in excess of 70 percent by end-December 1999.
December 31, 1999
  Enforce prudential requirements for commercial banks, merchant banks, and specialized and development banks to:
•Maintain internal liquidity control systems based on a maturity ladder approach;
•Report maturity mismatches for sight to 7 days; 7 days to 1 month; 1 to 3 months; 3 to 6 months; 6 months to 1 year; and over 1 year.
•Maintain positive mismatches for the first period. From sight to 1 month, any negative mismatch should not exceed 10 percent of total foreign currency assets;
•Publicly disclose statistics on foreign currency liquidity.
The FSC will monitor implementation of internal liquidity controls on a monthly basis for commercial banks, merchant banks, and specialized and development banks.
Specialized and development banks
Issue decrees which will bring into force the recently passed amendments to the relevant Acts.
December 31, 1999
  Pursuant to these decrees, issue regulations to update the prudential rules for specialized and development banks and systems for reporting to the FSC on the same basis as commercial banks.
January 31, 2000
  The FSC should enforce corrective measures identified by the FSC's recent examination of KDB.
Ongoing from end-May 1999
  Specialized and development banks will publish accounts on a fully consolidated basis, consistent with accounting standards for commercial banks no later than the financial year ending December 1999. These accounts should be externally audited by recognized accounting firms.
  The FSC will supervise the National Agricultural Cooperatives, National Fisheries Cooperatives, and National Livestock Cooperatives pending passage of legislation formally assigning responsibility for their supervision to the FSC.
Connected lending
The limit of 15 percent of total capital for lending to large shareholders and their affiliates, and other restrictions on connected lending, that apply to commercial banks will be applied to merchant banks. The excess over the 15 percent limit at end-December 1998 will be progressively reduced by 60 percent by January 1, 2000, and eliminated by January 1, 2001.
Completed by January 1, 2001
Large exposures
For commercial banks, the General Banking Law has been amended to redefine single borrower and group exposure limits, inter alia to include all off-balance sheet exposures.
From January 2000, the single borrower limit will be 20 percent and the group limit will be reduced from 45 percent to 25 percent of total capital, using the new definition. The exposure to each borrower or group of borrowers in excess of 45 percent outstanding at end-June 1998 will be eliminated by end-December 1999.
Remaining exposures in excess of the 20 percent and 25 percent limits at end-December 1999 will be subject to progressive reduction over the following three years, that is, one third of the excesses will be reduced by end- December 2000, two-thirds of the excess by end-December 2001 and the remaining excess eliminated by end-December 2002.
  In addition the authorities will limit the aggregate of exposures (with the new definition) in excess of 10 percent of total capital to 500 percent of capital by end-March
• Banks with aggregate large exposures in excess of this limit as of May 24, 1999 will meet interim benchmarks of 700 by end-September 1999, and 600 percent by end-December 1999.
  For merchant banks:
• The current limit of 100 percent will be reduced to 25 percent as of end-June 2000. Exposures to borrowers or groups of borrowers in excess of 45 percent at end-December 1998, will be eliminated by end-June 2000.
• Exposures in excess of 25 percent as of end-June 2000 will be subject to progressive reduction over the following three years, that is one third of the excess over 25 percent will be reduced by end-June 2001, and two thirds by end-June 2002, with the excess eliminated by end-June 2003.
  • The aggregate of exposures in excess of 10 percent of total capital will be limited to 600 percent of total capital by end-December 1999 and to 500 percent of total capital by end-June 2000.
  For specialized and development banks the same single borrower, group exposure and aggregate large exposure rules as for commercial banks will apply, with the following provisos:
  • For Korea Development Bank, no new single and group exposures in excess of 25 percent will be incurred after end-March 1999. Exposures in excess of 25 percent of capital outstanding at the end of March 1999 will be reduced by at least 15 percent in each year and will be eliminated by end-December 2004. In addition, KDB will reduce the aggregate of exposures in excess of 10 percent of capital to 600 percent by end-December 1999 and to 500 percent of capital by end- 2000;
  • For the Export-Import Bank of Korea, the rule applying to commercial banks will apply taking account of the specific characteristics of that bank, whereby the concentration of risk is reduced by the reliance on independent security, such as receivables or guarantees from third parties duly taking into account conservatively assessed value of such security.
The aggregate excess exposure of each commercial, merchant, and specialized and development bank will be published quarterly as from end-June 1999.
Done on September 1, 1999 and will be continued quarterly.
Cross guarantees
The FSC has established internal interim bench-marks to monitor progress toward the elimination of cross guarantees covered by the provisions in Article 10(3) of the Fair Trade Act by end-March 2000. As a part of the efforts to eliminate cross-guarantees, the top five chaebol have eliminated all inter sub-industry group cross-guarantees. The remaining cross-guarantees within sub-industry groups will be eliminated by March 2000.
Completed by March 31, 2000
Disclosure, auditing, and accounting standards
The MOFE, the FSC and KICPA and the relevant regulatory bodies should continue to improve disclosure, auditing, and accounting standards:
  • accounting standards will be enhanced further through the issuance of regulations on Troubled Debt Restructuring, which are consistent with US GAAP (FAS 15 and 114) effective by September 30, 1999. Further steps involve:
Done on September 14, 1999
  • reporting requirements for banks will continue to be improved, in order to strengthen the ability of supervisors to be forewarned of potential problems. In particular, losses incurred by banks including in debt restructuring must be recognized at the time of restructuring.
Public guarantee funds
At least 20 percent of the new guarantees, including rollovers, issued by Korea Credit Guarantee Fund and Korea Technology Guarantee Fund will cover only 80-90  percent of the value of guaranteed obligations depending on the credit rating of the firm. This trend toward providing only partial guarantees will continue such that by end-2000 all new guarantees issued will cover only 60-90 percent of the value of guaranteed obligations.

Trade and Capital Account Liberalization

Type of measure



Foreign exchange liberalization
A revised foreign exchange law came into effect on April 1, 1999, at which time a first stage of liberalization measures was implemented. The second stage will involve the liberalization of capital account transactions that remained restricted after the first phase, and will be subject to the overall economic situation and progress made in strengthening the domestic financial system and the regulatory regime.
Planned for end-2000

Transparency, Monitoring, and Data Reporting

Type of measure



Fiscal data
The timeliness of the reporting of fiscal data is being improved through the introduction of a computerized reporting system. Starting with data for July 1999, monthly data on revenue, expenditure and financing of the consolidated central government have been made available publicly with no more than a 4 week lag.
Fiscal transparency
In the interest of improving budget management and increasing the transparency of fiscal accounts, the government plans to introduce tax expenditure reporting as part of the budgetary process and to consolidate the number of special funds that are currently outside the scope of the budget.
Financial sector
Details of all public support for financial sector restructuring, including by KAMCO and KDIC, are being made available publicly on a regular basis.
  The FSC will provide to the Fund all the relevant information, including the results of diagnostic reviews and information on MOUs, as necessary for monitoring the restructuring of the financial system.
External debt
Data on external liabilities are being published regularly, and the external debt reporting system to enhance debt management and monitoring will continue to be improved.
  A set of external vulnerability indicators is being developed as an "early warning system."
  Regulations to ensure compliance with reporting on external liabilities of the corporate sector have been put in place as part of the Foreign Exchange Law of April 1, 1999.
Foreign reserves
Data on usable reserves of the BOK are being published twice monthly (for 15th and the last day of each month) within five business days. Data on net forward position of the BOK is being published monthly. All of these data have been placed on the BOK web site.



Structural Performance Criteria

December 31, 1999

1.  By December 31, 1999, FSC to have completed a study of reserving by life insurance companies.

2.  By December 31, 1999, FSC to have brought into force new classification and provisioning requirements for commercial banks, and for specialized and development banks that are based on forward looking criteria that reflect capacity to service all obligations.

January 31, 2000

3.  By January 31, 2000, consistent with the underlying legal framework, issue regulations to update the prudential rules for specialized and development banks and systems for reporting to the FSC on the same basis as commercial banks.

March 31, 2000

4.  By March 31, 2000, the FSC will issue minimum guidelines regarding corporate governance for insurance companies, which will include appointing non-executive directors to the board of directors, establishing an audit committee of which at least two thirds would be non-executive directors, and establishing risk management committees.

5.  By March 31, 2000, the FSC will issue regulations requiring ITCs and ITMCs to appoint non-executive directors, disclose investment guidelines and strategies to investors, to have investment funds subject to external audit, and introduce penalties on trustees that fail to observe their obligations to investors.


Monetary Sector
Outstanding Stock as of: Limit
(In billions of won)

Net domestic assets
    End-June 1999  
       Performance criterion –25,787
       Actual1 –36,646
    End-September 1999  
       Performance criterion –28,713
       Actual –45,361
    End-December 19992 –47,917
    End-March 20002 –54,642

1With net foreign assets valued at program exchange rates.
2Performance criterion.

Net domestic assets (NDA) is defined as the difference between reserve money and the won equivalent (converted at the program exchange rate) of net international reserves (NIR) as defined in the program. The NDA target will be adjusted down by the amount of any upward adjustment to the NIR target, made necessary by an increase in the net forward position over the end-December 1998 level.

The ceiling on NDA will be increased (decreased) for any increase (decline) in required reserve ratios. In addition, to take account of potential problems arising from Y2K, the ceiling on NDA will be increased if currency in circulation and cash in domestic money banks at end-December 1999 exceeds the programmed amount of W 17,771 billion. At end-September, currency in circulation and cash in domestic money banks amounted to W 17,553 billion.


Net International Reserves of the Bank of Korea

(In billions of U.S. dollars)

End-June 19991

    Performance criterion 40.3

Actual 48.4
End-September 19991
    Performance criterion 43.7

Actual 58.5
End-December 19992 62.4
End-March 20002 66.8

1See EBS/98/38.
2Performance criterion.
For monitoring purposes, net international reserves (NIR) of the Bank of Korea (BOK) is defined as the U.S. dollar value of gross foreign assets in foreign currencies minus gross foreign liabilities.

Gross foreign assets will include all foreign currency denominated claims, including monetary gold, holdings of SDRs, and the reserve position in the Fund. Excluded from gross foreign assets will be participation in international financial institutions, as well as holdings of nonconvertible currencies, claims on residents, and deposits of the BOK at overseas branches and subsidiaries of Korean banks. Gross foreign liabilities are all foreign currency denominated liabilities of contracted maturity up to and including one year plus the use of Fund credit. All assets and liabilities will be valued at program exchange rates.

The net forward position is defined as the difference between the face value of foreign currency denominated BOK off-balance sheet (forwards, swaps, options, and any futures market contracts) claims on nonresidents and foreign currency obligations to both residents and nonresidents.

The floor on NIR will be adjusted upward for any increase in the net forward position over the end-October 1999 position of US$1.9 billion (all of which are swaps).


Fiscal Sector

(In trillions of won)

Cumulative deficit from January 1, 1999 to
end-March 1999
Program1 7.1

Actual 3.3
Cumulative deficit from January 1, 1999 to
end-June 1999
Program1 12.9

Actual 6.0
Cumulative deficit from January 1, 1999 to
end-September 1999
Program1 18.6

Actual 8.5
Cumulative deficit from January 1, 1999 to
end-December 19991
Cumulative deficit from January 1, 2000 to
end-March 20001

1Indicative ceiling.
The consolidated central government overall deficit is defined as the consolidated balance of the central government (comprising the general account, the special accounts, and the special budgetary funds) and the public enterprises special accounts.

The consolidated central government overall deficit is measured through the government treasury accounts. It is defined as the change in the central government deposits and the treasury cash with the BOK, plus the change in deposits with commercial banks and nonbank financial institutions, plus the change in central government bonds outstanding, plus foreign borrowing by the government. For program purposes privatization is included in the deficit as negative net lending


Memorandum of Understanding

November 18, 1999

Agreement has been reached between the Government of Korea and the World Bank on a corporate restructuring program as set out in the attached policy matrix. This matrix will be attached to the Memorandum on Economic Policies for the Sixth Review under the Stand-By Arrangement between the Government of Korea and the International Monetary Fund. Once agreement is reached between the Government of Korea and the World Bank on the proposed Corporate and Financial Sector Restructuring Loan, this matrix will form part of the overall policy matrix for that loan. The Government of Korea expresses its firm commitment to implement this program effectively and in accordance with the timetable indicated in the attached policy matrix.

On behalf of the Republic of Korea
Mr. Yangho Byeon
On behalf of the World Bank
Mr. Zia Qureshi


World Bank CFSRL - Policy Matrix
II. Corporate Sector Reform
Part A: Corporate Restructuring

Objectives CFSRL Program Follow-Up Agenda/Benchmarks
Top 5 Restructuring    
Promote timely and effective restructuring of the top 5 chaebols.

FSC ensures independent and objective evaluation of the adequacy and feasibility of the Capital Structure Improvement Plans (CSIPs) submitted by all of the top 5 chaebols. Submission of revised CSIPs by those chaebols whose existing CSIPs, based on the June 30, 1999 financial statements and operating reports, are deemed unsatisfactory (September 30, 1999).

FSC compilation of Lead Bank certifications of the adequacy and feasibility of CSIPs.

  FSC ensures monthly implementation reviews of CSIPs.

Quarterly FSC status reports based on monthly implementation reviews. Progress in top 5 restructuring evidenced by, inter alia: reduction of debt-equity ratio (excluding any asset revaluation); asset sales/M&As; reduction in number of chaebol affiliates and range of chaebol business activities to core businesses.

  FSC provides guidance to Lead Banks regarding required actions and sanctions for the top 5 chaebols that do not meet agreed CSIP benchmarks (September 15, 1999).

Quarterly FSC status reports to include information on such actions taken/sanctions applied.

Respond to the Daewoo crisis by fundamentally restructuring the Group.

FSC provides the following information to World Bank (October 31, 1999):
  • Details on Daewoo's debt, including terms and conditions, by creditor institution.
  • Detailed information on new credits and rollovers provided to Daewoo, including their terms and conditions, by creditor institution.
  • FSC instructions on provisioning for financial institutions' exposure to Daewoo.
      Adopt a restructuring program for Daewoo, led by creditor banks and overseen by FSC/CRCC, including a triage of Daewoo affiliates by restructuring method (e.g., workouts, sale) and separation of Daewoo affiliates from the Group, leaving only a few core companies under the Group's control. Provision of any further creditor support to affiliates only within an agreed restructuring framework (September 30, 1999).

    Quarterly FSC status reports on progress on Daewoo's restructuring program based on monthly implementation reviews.

      For the twelve major Daewoo affiliates identified for workouts, establishment of a workout framework, based on guidelines issued by FSC/CRCC to the Lead Banks, including thorough due diligence, effective involvement of international advisors, and clear stipulation of performance benchmarks, monitoring arrangements, and sanctions for non-compliance by the workout companies with the performance benchmarks (sale of collateral/assets, withdrawal of credit, and/or moving the company into court supervised reorganization or bankruptcy). October 31, 1999. Timetable for the workouts to be as follows: due diligence during September-October; workout agreements and signing of MOUs during November-December. Some Daewoo affiliates, or parts of these affiliates, expected to have been actually sold/spun off during this period.

    Quarterly FSC reports on progress on workout of Daewoo affiliates and implementation of the workouts.

    Actual application of creditor sanctions in the event of failure to comply with the agreed restructuring program.

    Strengthen the restructuring framework for the other chaebols in the top 5 category.

    In the event the other top 5 chaebols (Hyundai, Samsung, LG and SK) are unable to comply with CSIPs based on end-September or end-December 1999 implementation reviews, FSC will recommend that Lead Banks prepare a detailed evaluation of their restructuring plans, with input from independent advisors with international experience in comparable corporate restructuring and workouts, and identify appropriate course of action and sanctions (workout of chaebol affiliates, sale of collateral/assets, court-supervised reorganization or bankruptcy of affiliates, and/or withdrawal of credit) .

    Quarterly FSC status reports. Progress in the restructuring/liquidation of distressed top 5 affiliates. Actual application of creditor sanctions for con-compliance with the CSIPs.

    Ensure that the "Big Deals" (swaps of affiliates or joint ventures among the top 5 chaebols) are based on commercial principles, with fair burden-sharing between the chaebol and their creditors, and are accompanied by real restructuring measures to reduce excess capacity.

    For each Big Deal, require that the Lead Banks of acquiring chaebols demonstrate the completion of the following, with input from independent advisors to ensure objective evaluation: a feasibility assessment of the proposed combination; due diligence on the acquisition; a proposed capital structure, based on a comparison of interest expense at market rates with projected cash flows; a plan for the disposition of excess debt; and a plan for the reduction of excess capacity (August 31, 1999).

    FSC will provide World Bank with a status report on the Big Deals, including information on which deals have been reviewed by independent advisors, the name of the advisory firm, and the date the work was completed (September 30, 1999).

    Quarterly FSC status reports. Close monitoring of the implementation of Big Deals, especially with respect to consistency with commercial principles and market criteria, fair burden sharing with creditors, and reduction of excess capacity.

    Restructuring of 6-64 Chaebols
    And Other Large Corporations

    Ensure effective implementation of agreed workouts.

    FSC requires effective monitoring of implementation of workout MOUs, including regular debtor reporting and quarterly implementation reviews by creditor banks' workout units.

    Quarterly FSC status reports. Progress indicators for implementation of agreed workouts.

      FSC provides guidance to Lead Banks regarding required actions and sanctions for chaebols and corporations that fall short in MOU implementation. Required actions may include a second workout and full cooperation by the chaebol/corporation with a due diligence team appointed by the Lead Bank for the workout. Sanctions may include withdrawal of credit or creditor petition for bankruptcy (September 30, 1999).

    Quarterly FSC status reports to include information on such actions taken.

    Maintain institutional framework for the workout program.

    FSC will recommend extension of the Corporate Restructuring Agreement and Corporate Restructuring Coordination Committee (or an alternative autonomous institution) through December 31, 2000 (October 31, 1999).

    Improve future efforts at workouts in light of experience gained so far with workouts.

    FSC provides guidance to improve the quality and scope of future workouts: a more comprehensive approach to due diligence (i.e., operational as well as financial restructuring) and involvement of expert advisors in the process; more stringent criteria for selection of firms for workouts instead of court-supervised insolvency; application of alternative debt restructuring options to support more differentiated workout design; and clear specification of enforceable performance benchmarks or financial covenants, monitoring arrangements, and sanctions for non-compliance in workout MOUs (September 15, 1999).

    Monitoring of implementation through quarterly FSC status reports.

    Bring additional distressed chaebols into the resolution process.

    For chaebols whose self restructuring efforts have been deemed unsatisfactory or worse, based on review of June 30, 1999 financial statements and operating reports, FSC will provide guidance to Lead Banks regarding remedial actions and sanctions. Remedial actions may include: strengthening of their CSIPs, imposition of sanctions for non-compliance, or bringing the chaebols into formal workout (per enhanced standards) and requiring full chaebol cooperation with a due diligence team appointed by the Lead Bank for the workout. Required sanctions for non-compliance may include withdrawal of credit and/or creditor petition for bankruptcy. (Required remedial actions should be initiated, or initial sanctions imposed, by September 30, 1999.)

    FSC semi-annual status reports based on bank implementation reviews. Bring more chaebols into this resolution process if their self restructuring efforts prove unsatisfactory.

    Debt/Equity Conversions    
    Promote effective use of debt-equity swaps and convertible debentures.

    FSC recommends that in future workouts equity acquired by banks in exchange for debt be free of restrictions on resale or transfer to a corporate restructuring vehicle (CRV) for managing the equity (September 30, 1999).

    FSC guidelines require that equity (and convertible bonds) issued in exchange for debt be marked to market but valued more conservatively where these assets are subject to restrictions on sale and marketability (August 15, 1999).

    Monitoring the implementation of these guidelines. Review the regulatory framework for swaps for possible further improvements (including removal of any legal or tax impediments) in light of findings of a Bank-supported workshop on swaps to be held in Seoul in September 1999 and a policy paper to be prepared by FSC.

      Complete the FSC commissioned study on facilitating the establishment of CRVs (that are privately financed and managed and would support the process of debt-equity conversions by purchasing and/or managing equity acquired by financial institutions as a result of such conversions). Formulate measures to remove any regulatory or other barriers to the establishment and operation of CRVs identified by the study (October 15, 1999).

    Implementation of measures to promote CRVs based on the findings of the study.

    Cross Guarantees    
    Eliminate cross debt guarantees.

    Continue the reduction of cross guarantees per the timetable and benchmarks established.

    Elimination of cross guarantees by the target date of March 2000.

    Ensure that companies provide reports and audited financial statements in accordance with international accounting standards.

    Require that the chaebols' combined and consolidated financial statements include all international (offshore) operations, except those international operations with an asset value of less than 7 billion won (ongoing).

    Annual financial statements beginning with the 1999 reporting year prepared in accordance with this requirement.

    Ensure effective monitoring of the implementation of the corporate restructuring program.

    Following the quarterly reviews of CSIPs of the top 5 chaebols and the quarterly review of the workout program of the 6-64 chaebols and other large corporations, FSC will make public a report on the status of implementation of these programs, indicating progress on meeting key restructuring targets. Such quarterly public reporting will take place within 45 days of the end of each quarter.

    Within 30 days of the end of each quarter, FSC will provide World Bank with a status report on the corporate restructuring (CR) program as agreed to above. This reporting arrangement will continue at least until the end of the year 2000.

    Maintain quarterly public reporting.

    Regular provision of these quarterly reports, and other information World Bank may request to monitor implementation of the CR program.