With the U.S.-Korea negotiations concluded, tariff uncertainty has lifted, but the won-dollar exchange rate still remains well above 1,400 won. Despite the government's explanation that it will not use foreign exchange reserves, rising dollar demand and caution over future fiscal burdens are weighing on market sentiment. Experts expect the exchange rate to stay above 1,400 won at year-end.
According to the Seoul foreign exchange market on the 5th, during the night session on Oct. 29 when news broke of the U.S.-Korea negotiations being concluded, the exchange rate briefly plunged to 1,419.6 won but then rebounded to close at 1,421 won. Since then, the rate turned upward and continued to rise, and from the 4th it surged on the back of heavy selling of domestic stocks by foreigners. As of 11:05 a.m. on the 5th, it was at 1,447.8 won.
The market had initially expected the won-dollar rate to fall by at least 20 to 30 won on the back of the deal. Considering that the rate was in the 1,380-won range before the U.S.-Korea tariff negotiations flared up, the view was that the removal of tariff risk would translate into downward pressure on the rate. In reality, however, it fell by just over 10 won before rebounding, quickly damping expectations.
◇ The government at $200 billion, corporations at $150 billion+α… Dollar supply-demand uncertainty has grown
Experts cite as reasons why the exchange rate is not easily falling: 1) limits on the increase in the government's foreign exchange reserves, 2) large-scale overseas investment by corporations, and 3) fiscal risks from issuing government-guaranteed bonds.
First, the $200 billion that the Korean government decided to raise in cash is not small. The government said it will pay up to $20 billion per year over 10 years without directly using foreign exchange reserves, instead tapping foreign-currency asset management revenue ($15 billion) and newly issued government-guaranteed investment funds fund bonds ($5 billion). The aim is to minimize shocks to the foreign exchange market.
However, returns on foreign-currency management are also included in foreign exchange reserves, so even if foreign-currency assets do not decrease immediately, the increase in reserves is likely to be limited over the long term. If a situation like April last year, when the dollar surged on Middle East geopolitical tensions, is replayed, it could reduce the authorities' room to intervene in the market.
The expansion of corporations' overseas investment is also a factor restraining a decline in the exchange rate. Right after the tariff negotiations, the government said Korean corporations had decided to invest $150 billion in cooperation with the U.S. shipbuilding sector. Adding in investment plans already signaled by domestic corporations such as Korea Gas Corporation (KOGAS), Korean Air, Hanwha Ocean, and HD Hyundai, the total investment amount rises further. President Donald Trump claimed on his social network service (SNS) that, separate from the tariff negotiations, the amount of investment announced by Korean corporations reaches $600 billion.
Min Kyung-won, a Woori Bank researcher, said, "We assess the outcome of the U.S.-Korea tariff negotiations positively, but we do not expect a stronger won until the route for raising or securing funds for $20 billion per year in direct investment becomes clear," adding, "From a foreign exchange market perspective, additional variables such as annual real-demand buying of $20 billion or reduced supply will translate into supply-demand uncertainty being reflected as a rise in the exchange rate in the short term."
Another variable is the issuance of government-guaranteed bonds. As such bonds increase, the government's external debt rises and fiscal burdens grow. If accumulated over 10 years, it could negatively affect fiscal soundness and the national credit rating. If losses occur from investment by the U.S.-bound investment funds, the government's fiscal burden could grow further.
Lee Seung-heon, a Soongsil University economics professor (former Bank of Korea vice governor), said, "If the government's external debt increases, it could be linked to a widening fiscal deficit and a risk premium could be reflected," adding, "This could act as a weakening factor for the won over the medium to long term."
◇ Even the dollar has turned stronger… "The exchange rate will stay above 1,400 won through year-end"
With the rate barely coming down, the dominant view is that the 1,400-won level will persist through year-end. Dollar demand has increased due to the U.S.-Korea negotiations, and the dollar is strengthening as the chance of an additional rate cut by the U.S. Federal Reserve in December has diminished.
The Fed cut its policy rate by 0.25 percentage point on the 29th of last month (local time) but was cautious about the possibility of further cuts. Fed Chair Jerome Powell drew a line, saying, "An additional rate cut in December is by no means a done deal." In fact, at this Federal Open Market Committee (FOMC) meeting, 2 of the 12 members with voting rights argued for a hold.
Recently, the dollar has strengthened against the currencies of major countries. According to Investing.com, the dollar index jumped to 100.18 on the 4th, topping 100 for the first time in three months since August. The dollar index shows the value of the dollar against the currencies of six major countries. The index above 100 means the dollar has strengthened against other currencies.
Jeong Yong-taek, an IBK Securities economist, said, "Uncertainty has been removed by the U.S.-Korea negotiations, but dollar demand will increase by about $20 billion starting next year," adding, "Given that, the exchange rate will edge down only slightly by year-end." He added, "At year-end, it will move around the 1,400-won level."
Lim Hwan-yeol, a Woori Bank researcher, said, "As projections continue that demand for dollars will far exceed supply, the exchange rate will remain above 1,400 won through year-end," adding, "Separate from the government minimizing the impact on foreign exchange reserves by using foreign-currency asset management revenue, there is still caution about corporations relocating overseas production bases and about residents' overseas investment."
Baek Seok-hyun, a Shinhan Bank economist, also said, "We expect the year-end exchange rate to be in the low 1,400-won range," adding, "In the long term, as intensive investment in the United States is necessary, there will inevitably be an investment gap at home. This could slow Korea's growth rate and negatively affect the national economy."