The Effects of Microeconomic Fundamentals on the Korean Financial Crisis

In this study, we assess the effects of default risks and financial performance of firms on the overall risk of Korea around its financial crisis in the late 1990s and on their market values, using firm-level data from 1991 to 2007. We develop default prediction models and calculate Altman’s K scores to measure the overall risks and quality of firms respectively. Based on our own default prediction models, we have shown that the default risks of firms were extremely high before the crisis and drastically declined after the crisis. We have also found that the default risks of chaebol firms were much lower before and after the financial crisis and that their market values were much higher after the crisis, compared with those of non-chaebol firms. This implies that the Korean economy with high sovereign risks for a long time experienced the crisis due to weak firm-level fundamentals, regained its vitality due to significant improvements made by chaebol firms through the crisis and has become much stronger than before.