As projections indicate that a supplementary budget for next year is unavoidable, concerns are arising that instability could increase in the bond market. This is because it is evident that additional burdens will be added to the government bonds issuance scale, which is already set at a record level. In this situation, the effect of inclusion in the World Government Bond Index (WGBI) is being highlighted as a key variable for stabilizing the government bonds market.
According to the government on the 28th, the Ministry of Strategy and Finance is reviewing various measures with the supplementary budget in mind. Deputy Prime Minister Choi Sang-mok recently noted that the government needs to respond actively given the difficulties in people's livelihoods and the expanding external uncertainties, expressing the opinion that a supplementary budget might be necessary, if not immediately. Bank of Korea Governor Lee Chang-yong also mentioned that the current budget bill could lower the economic growth rate by about 0.06 percentage points and indicated that there is room to utilize more finances.
The government plans to execute 75% of the total budget, amounting to 431 trillion won, early in the first half of next year. However, there are claims that early execution alone is insufficient, and the market is discussing the possibility of a 'super supplementary budget' in the scale of tens of trillions of won. Citi Research expects the Korean government to organize a supplementary budget of approximately 30 trillion won in the first quarter of next year.
Kim Ji-na, a researcher at Eugene Investment & Securities, analyzed in a report that this supplementary budget could exceed 10 trillion won significantly and noted that it might not end in one instance depending on the nature of the next ruling party. Furthermore, Kim explained that the fact this supplementary budget is discussed even before next year begins indicates that the timing will be earlier than usual, with a possibility of materializing around the late first quarter to the second quarter of next year.
The bond market is keenly aware of the timing and scale of the supplementary budget due to the potential of it further increasing the burden of government bonds issuance. Next year's government bonds issuance is already set at a record high of 197.6 trillion won, and an additional issuance of up to 20 trillion won in foreign-exchange stabilization bonds is expected to enhance external credibility and stabilize the foreign exchange market. The supplementary budget will primarily be funded through government bonds issuance, and with additional supply added to the already record-high level, it is likely to impose further burdens on the market.
A bond market insider noted that an increase in government bonds issuance could lead to rising interest rates, which in turn could become a factor in raising the expense of capital procurement for corporations and households. Even if the supplementary budget boosts the economy in the short term, it could increase the pressure of economic slowdown in the long term.
In this situation, the inclusion in WGBI is being highlighted as a key variable for stabilizing the government bonds market. The WGBI is one of the world's three major bond indices with approximately $3 trillion in tracking funds. Korean government bonds included in the WGBI are expected to have a weight in the index reflected starting November next year, with an inflow of about 75 trillion won in foreign capital anticipated.
With the inclusion in WGBI, Korean government bonds will hold a weight of approximately 2.22% in the index, ranking 9th among the 26 included countries, a high level. According to Goldman Sachs, the WGBI inclusion is projected to lead to an additional inflow of passive fund capital of approximately $50 billion to $60 billion and active fund capital of about $10 billion.
This capital inflow is assessed to bring various positive effects, not only stabilizing the government bonds market but also reducing the expense of fiscal fund procurement and enhancing credibility in the global financial market. The government has begun preparations to maximize the effects of WGBI inclusion, such as evenly distributing government bonds issuance monthly and expanding briefing sessions for foreign investors.
Gwak Sang-hyun, director of the government bonds division at the Ministry of Strategy and Finance, stated that the market sees some demand already appearing to reflect the effect of WGBI inclusion starting in the first half of next year. Gwak noted that there is a high possibility that investors, anticipating concentrated investment demand after November, will enter the market in the first half of next year to preemptively purchase government bonds.
Some analysts suggest that the effects of WGBI inclusion might fully manifest after the second quarter. Kang Seung-won, a researcher at NH Investment & Securities, noted that from the second quarter, as the effects of WGBI and interest rate cuts become reflected, the fear in the market could partially ease. However, if fiscal policies are overly concentrated during the first quarter's void, it could burden the market.
Kang added that since WGBI funds mostly come in through passive funds, the impact on the foreign exchange market might be relatively less. Nevertheless, initial market volatility is inevitable, so the government needs to carefully coordinate issuance schedules.