The Korean won's exchange rates against the British pound and euro have surged to their highest levels in 16 years. Although foreign exchange authorities have moved to expand dollar supply, high exchange rates are expected to persist for the time being unless structural supply-demand imbalances driven by increased overseas investment are resolved.
According to the foreign exchange market on December 23, the won-pound exchange rate rose to 2,002 won per pound during trading, breaking through the 2,000 won threshold for the first time since the global financial crisis in September 2009. The won-euro rate also traded at around 1,747 won per euro, reaching its highest level since November 2009. The reference exchange rate published by the European Central Bank stood at 1,738.72 won per euro as of December 22, supporting the euro's strength.
The euro has surged approximately 16% from around 1,505 won in January this year in less than a year, while the pound has risen 13.8% from the 1,760 won range at the start of the year. However, neither the euro nor the pound has shown particular strength against the dollar in international foreign exchange markets. Market participants attribute the fundamental cause of this exchange rate surge not to European currency strength but to the declining value of the Korean won.
"When the won's value falls against the U.S. dollar, which serves as the global reserve currency, the won-euro and won-pound exchange rates inevitably rise mechanically," foreign exchange market officials said. "The gains were amplified as European currencies maintained relatively firm trajectories against the dollar due to policy factors."
The Bank of Korea and foreign exchange authorities have also pointed to supply-demand imbalances rather than macroeconomic fundamentals as the backdrop for the recent won weakness. They explain that dollar buying demand has become constant as institutional investors including the National Pension Service, along with individuals and corporations, have expanded investments in overseas stocks and bonds.
The Bank of Korea cited structural increases in dollar demand from expanded overseas investment as the primary cause of the won's accumulated weakness in the second half of the year. The National Pension Service's large-scale dollar procurement and hedging methods are particularly seen as having significant market impact. Currency hedging refers to transactions that fix future exchange rates in advance to reduce losses from exchange rate fluctuations.
The Bank of Korea and foreign exchange authorities have taken defensive measures to calm the surging exchange rates, including expanding onshore dollar supply and extending foreign exchange swaps with the National Pension Service. Nevertheless, the prevailing view is that reversing the exchange rate uptrend will be difficult as long as the overseas investment boom continues. "Korean authorities are publicly explaining the recent won weakness in connection with dollar demand from expanded overseas investment as they work to stabilize the market," Reuters reported.
While the won has weakened, the euro and pound have relatively well maintained their value against the dollar. Analysts interpret that both won weakness and the ECB's cautious monetary policy stance have simultaneously contributed to the euro's value against the won reaching its highest level in 16 years. The ECB recently held its policy rate at around 2%, assessing that the economy and inflation are relatively stable.
The Bank of England cut its benchmark interest rate this month but signaled that the pace of additional cuts would be limited due to inflation concerns. "Even after this rate cut, the Bank of England supported the pound's floor by providing clear guidance," Reuters reported.
The exchange rate surge is having immediate effects on the real economy. European travelers, students studying abroad, and overseas direct purchase consumers who must pay in euros or pounds face significantly increased overall costs for airfare, accommodation, and tuition. Companies are also seeing mixed outcomes. Export firms with high European sales proportions are seeing improved results when converted to won, while companies importing energy, components, and consumer goods from Europe face rising costs. Hedging costs and accounting management burdens from exchange rate fluctuations are also expanding simultaneously.
Experts agree that future exchange rate direction depends more on domestic won supply-demand conditions than on European central bank policies. They explain that structural weakening pressure on the won will remain as long as the overseas asset allocation trend centered on the National Pension Service and individual investors continues. Citing experts, Reuters reported that "Korean financial authorities' measures can cushion sharp volatility, but supply-demand itself must ease to change the overall trend."
