Emerging economies brace for COMING FINANCIAL STORM
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As the US Federal Reserve is likely to start winding down its massive stimulus programme soon, South Korea's policymakers need to step up market monitoring and take steps to minimise its negative impact.
The Fed is holding a policy meeting September 17 and 18, with two-thirds of Wall Street analysts betting that what will emerge is a decision to begin tapering the bond-buying scheme starting this month.
Since May, when the Fed first suggested it might start to scale back its money printing within this year, South Korea has fared much better than other emerging countries in coping with the storm.
While most emerging economies have seen their currencies tumble due to the foreign capital flight, South Korea has rather enjoyed hot money inflows.
Foreign investors are attracted by South Korea’s strong economic fundamentals as attested to by the continued current account surplus, ever-growing foreign exchange reserves and a significant drop in short-term external debt.
South Korea is no longer the crisis-prone country it used to be. As such, foreign investors are treating it differently from other emerging economies. Some analysts even regard it as a safe haven for foreign investors.
This, however, does not mean that it will not be hit when the Fed starts to reduce the money supply. South Korea still remains vulnerable, as its financial market is wide open.
If US interest rates rise as a result of the reduction in the Fed’s bond purchases, South Korea could suffer capital outflows, which would increase the volatility of domestic financial markets
Financial officials should be ready to put in place emergency measures, such as levies on banks’ foreign debts, restrictions on banks’ foreign exchange forward transactions and reinstating taxes on foreigners’ investments in local bonds.
They also need to ease financial difficulties of troubled companies. Capital outflows could boost domestic interest rates, increasing the corporate interest payment burden. Many companies, especially those in slumping sectors such as shipping, shipbuilding and construction, already have difficulty paying back their debts.
Banks would also see their balance sheets further strained by an increase in non-performing assets. Banks can hardly afford any increase in bad debts because their income has been halved due to the persistence of low interest rates.
Any rise in interest rates would also increase the burden on indebted households. A one percentage point rise in interest rates would boost households’ interest burden by as much as 10 trillion won (Bt2.9 billion) given that household debt hovers at around 1 quadrillion won.
South Korea is definitely better prepared for shifts in global capital flows than many other countries. Yet it should be wary of complacency and raise its guard against the coming storm.
