EXCLUSIVE-South Korea's President Lee says US investment demands would spark financial crisis

By Josh Smith, Hyunjoo Jin and Heejung Jung

SEOUL, Sept 22 (Reuters) - South Korea's economy could fall into crisis rivalling its 1997 meltdown if the government accepts current U.S. demands in stalled trade talks without safeguards, President Lee Jae Myung told Reuters.

Seoul and Washington verbally agreed to a trade deal in July in which the U.S. would lower President Donald Trump's tariffs on South Korean goods in exchange for $350 billion in investment from South Korea, among other measures.

They have yet to put the agreement to paper because of disputes over how the investments would be handled, Lee said.

"Without a currency swap, if we were to withdraw $350 billion in the manner that the U.S. is demanding and to invest this all in cash in the U.S., South Korea would face a situation as it had in the 1997 financial crisis," he said through a translator.

In an interview in his office on Friday, Lee also spoke about a huge U.S. immigration raid that detained hundreds of Koreans, as well as Seoul's relations with rival North Korea, neighbouring giant China and Russia.

But trade and defence talks with the U.S., South Korea's military ally and a top economic partner, are overshadowing a trip Lee makes from Monday to New York, where he will address the United Nations General Assembly and be the first South Korean president to chair a meeting of the Security Council.

PRAISES TRUMP'S HANDLING OF HYUNDAI RAID

Lee, a liberal, took office in a June snap election after his conservative predecessor, Yoon Suk Yeol, was removed from office and jailed for briefly imposing martial law. Lee has sought to calm the country and its economy and said he plans to use his U.S. visit to tell the world that "democratic Korea is back".

Lee met Trump for their first summit in August, saying he had built a strong personal tie with the U.S. leader, despite not agreeing on a joint statement or concrete announcement.

This month Trump's administration rocked South Korea with the arrest of more than 300 South Korean workers at a Hyundai Motor battery plant in Georgia, with federal officials accusing them of immigration violations.

Lee said South Koreans were naturally angered by the "harsh" treatment of the workers - the Trump administration published images of them in shackles - and has warned it could make companies wary of investing in the United States.

But he said the raid would not undermine the bilateral alliance, praising Trump for offering to let the workers stay. Lee said he did not believe it was directed by Trump but was the result of overzealous law enforcement.

"I do not believe this was intentional, and the U.S. has apologised for this incident, and we have agreed to seek reasonable measures in this regard and we are working on them," he said.

Lee's office says there is no plan for him to meet Trump in New York and that the trade talks are not on the visit's agenda.

STUMBLING BLOCK IN TRADE TALKS

Commerce Secretary Howard Lutnick has said South Korea should follow Japan's deal with the United States. He said Seoul either needs to accept the deal or pay the tariffs, using the Trump administration's depiction of foreign governments paying the levies, which are instead paid by U.S. importers.

Lee, asked if he would walk away from the deal, said: "I believe that between blood allies, we will be able to maintain the minimum amount of rationality."

South Korea has proposed a foreign exchange swap line with the U.S. to reduce the shock of the investments on the local market for the won currency. Lee did not address how likely the U.S. was to agree or whether that would be enough for the deal to go forward.

He said South Korea is different from Japan, which struck a trade deal with the U.S. in July. Tokyo has more than double South Korea's $410 billion foreign exchange reserves, an international currency in the yen and a swap line with the United States, Lee said.

Seoul and Washington have said in writing that any investment projects must be commercially viable, but working out the details is proving difficult, he said.

"Reaching detailed agreements that guarantee commercial reasonableness is now the central task - yet it also remains the biggest obstacle," Lee said. Proposals during working level talks provide no assurance of commercial viability, making it hard to bridge the gap, he said.

Trump says the investments will be "selected" by him and controlled by the U.S., meaning Washington would have discretion over where the money will be invested.

But Lee policy adviser Kim Yong-beom said in July that South Korea had added a safety mechanism to reduce financing risk, including supporting commercially feasible projects rather than providing unconditional financial support.

Lee said South Korea and the United States do not disagree on increasing Seoul's contributions toward its own defence, bolstered by 28,500 U.S. troops on the Korean peninsula, but that Washington wants to keep security and trade talks separate.

"We should end this unstable situation as soon as possible," he said, when asked whether talks could extend into next year.

TENSIONS WITH NORTH KOREA, CHINA, RUSSIA

Lee has sought to reduce tensions with nuclear-armed North Korea. Pyongyang has rebuffed the South's overtures, and Lee said he was not optimistic about the prospect of inter-Korean talks for the time being.

During their meeting, Lee encouraged Trump to try to meet again with North Korean leader Kim Jong Un during Trump's trip next month for an Asia-Pacific summit Lee will host in the South.

Lee told Reuters his government does not have detailed information on the status of any talks between Washington and Pyongyang. "It is our judgement that they are not engaging in concrete conversations," he said.

He said he shares his predecessor Yoon's view that North Korea's military cooperation with Russia is a significant threat to South Korea's security. But he said it is not enough to respond in a simplistic way to the issue, which must be addressed through dialogue and coordination.

The North Korean leader and Russian President Vladimir Putin stood shoulder to shoulder this month in Beijing when Chinese President Xi Jinping hosted them at a massive military parade and summit.

Lee said there is increasing confrontation between a socialist camp of countries and a capitalist, democratic camp that includes Seoul, and South Korea's geography threatens to place it on the frontier of any conflict with the other camp.

He said there is an escalatory spiral of rivalry and tensions where South Korea, Japan and the United States deepen cooperation and China, Russia, and North Korea work more closely together.

"This is a very dangerous situation for Korea, and we must find an exit ramp out of the escalating military tensions," Lee said. "We must find a way for peaceful coexistence."