Despite the emergence of low productivity as a critical issue in the Korean service industry, there is still a lack of a clear solution. Accordingly, this study examines how firms that have entered the domestic service market via FDIs have affected the performance of their domestic counterparts and overall industrial productivity to present the implications of policies that attract foreign investment to bolster growth in service productivity.

Existing literature suggests that the impact of foreign-invested firms on the domestic economy can vary. For example, if a highly productive firm were to enter the market, it could either seize the market shares of local competitors (negative effect), or spillover technology and management know-how (positive effect). To answer which effect is dominant in Korea, the registry of foreign-invested firms was merged with the economic census for two critical service industries: IT and business services. Both services create relatively high value-added and have a strong complementarity with manufacturing, yet they suffer from persistent low productivity. Subsequently, an analysis was conducted on how foreign entry in these two markets affects employment, sales, and exit of domestic incumbents as well as the entry of new domestic firms. The entry-driven changes in industrial productivity are also investigated.

This study finds that the entry of foreign-invested firms has, on average, driven down the productivity, sales and wage growth of domestic firms. However, some highly productive firms have shown improvements in all three categories, indicating that foreign entry has a heterogeneous effect on local businesses. Other important findings include the fact that employment adjustment was relatively less responsive to foreign entry, and also that the exit of domestic firms was not significantly affected. In sum, the entry of foreign-invested firms did not contribute to improving the aggregate productivity of local industries as it failed to facilitate the market entry and exit of domestic firms who play a major role in the reallocation of labor.

The findings contradict perhaps the conventional view that policymakers should pursue to actively lower barriers and attract more foreign investments to boost the domestic service industry. A more accurate interpretation is that neither easing restrictions on foreign investment nor reinforcing incentives to attract foreign investors necessarily leads to strengthening competitiveness across the industry, and the effect may be heterogeneous depending on the nature of the firm or market. It is suggested that, despite the need to secure opportunities and time for local firms to respond to the opening of the service market at least, institutional reforms are implemented to lower entry and exit barriers and to make the labor market more flexible for easier reallocation.

Preface
Executive Summary

Chapter 1 Introduction

Chapter 2 Regulations on Foreign Investment in the Service Industry
　Section 1 Laws and Regulations on Foreign Investment
　Section 2 FTA Agreements and Service Sector Market Opening
　Section 3 Incentives for Attracting Foreign Investment

Chapter 3 Current State and Trends of Foreign Investment in the Service Industry
　Section 1 Trends and International Comparisons of Foreign Investment
　Section 2 Changes in Foreign Investment in Services Post-FTA

Chapter 4 Economic Impact of Foreign Investment in the Service Industry
　Section 1 Literature Review
　Section 2 Activities of Foreign-Invested Firms and Service Sector Productivity
　Section 3 Impact of Foreign Firm Entry on Domestic Firms

Chapter 5 Conclusion

References
Appendix
ABSTRACT