The won-dollar exchange rate approached 1,560 won at one point in June, hitting a record high for the first time in 17 years. The memories that number evokes are heavy. In 1997 and in 2008, the exchange rate surged with crisis, and that experience left us with the habit of reading a rise in the rate as a harbinger of crisis.
But the question we need now is not how high the exchange rate is. It is whether this weakness of the won is merely a price move, or a deterioration of the financial system itself. Currency weakness and system collapse are events on entirely different planes, and the moment the two are mixed, both the diagnosis and the prescription go awry.
It is true that the won is weak in the spot FX market. But what turns a foreign-exchange scare into a real crisis is not the level of the rate, but the drying up of funding. The essence of 1997 and 2008 was that dollars themselves disappeared from the markets where dollars were borrowed and circulated. Now the circumstances are different. In the FX swap market, the swap rate that gauges the expense of dollar funding is not widening into an inversion as in a crisis phase, but rather narrowing. If dollars were truly drying up, the first place to break would be this market, yet this market is currently stable.
The individual indicators point to the same conclusion. The spread on Foreign Exchange Equalization Fund bonds that reflects sovereign credit risk and the credit default swap (CDS) premium remain near historic lows. Foreign reserves stood at about $427 billion (about 659.6296 trillion won) at the end of May, holding at 12th in the world. The foreign-currency liquidity coverage ratio (LCR), which shows banks' ability to meet foreign-currency payments, was 165.6% at the end of the first quarter, more than double the regulatory standard (80%). The current account posted a surplus of $28.3 billion (about 43.7178 trillion won) in April alone, the second largest on record, and in June, exports for the 1st–20th jumped 60.4% from a year earlier led by semiconductors. It is the exact opposite of the scenes in 1997 and 2008, when the storehouse was running empty. From the perspective of a country's balance sheet, Korea is no longer the Korea of the past. During the foreign-exchange crisis, Korea was a net debtor, with liability exceeding asset, so the weaker the won, the heavier the burden of external debt repayments became. Today, Korea is a net creditor with net external financial assets of $753.6 billion (about 1,163.7844 trillion won). When the won weakens, exporters' profitability improves, and the won-converted value of assets piled up overseas also increases. The weak won thus offsets part of, rather than gnaws at, the nation's financial condition.
There is, however, a caveat to this relief. If earnings made overseas are reinvested locally and do not return home, the gain remains a book valuation profit and does not flow into the FX market as dollars. The expense imposed by weakness is felt immediately, but the compensation arrives slowly and uncertainly.
Then a deeper question remains. Why does the won swing more than other currencies under shocks of the same size? The commonly cited reason is the shallow depth of the FX market. But more essential is that the shallowness itself is not accidental; it is the product of policy choices we have consciously accumulated since 1997.
Memories of the foreign-exchange crisis left wariness toward the very phrase "free cross-border movement of capital," and authorities have long operated the FX market in a relatively closed form. Both the government and research institutes acknowledge that our market had a conservative, closed structure. The 2023 plan to improve FX market structure, the July 2024 extension of trading hours, and allowing participation by Registered Foreign Institutions (RFI) were efforts to open that closed structure to global standards.
As the won-dollar rate neared 1,560 won, memories of 1997 and 2008 resurfaced. But a rising exchange rate does not necessarily mean a foreign-exchange crisis. What must be watched now are not the numbers on the exchange board but system indicators such as dollar liquidity, CDS, foreign reserves, and foreign-currency LCR. The weak won is painful, but it must be distinguished from a system in collapse.
This is also the theoretically familiar tri-lemma problem. You cannot have monetary policy autonomy, exchange-rate stability, and free capital mobility all at once; the wider you open the capital account, the more you must cede discretion over either monetary policy or the exchange rate.
We chose the first two. So instead of fully opening the capital account, we took the path of governing capital flows with macroprudential tools such as the 2010 limits on forward FX positions, the 2011 FX stability levy, and the resumption of taxation on foreign investment in bonds.
These measures targeted the procyclicality of banks' short-term foreign-currency borrowing—the noncore liability—that was the first to shake in every crisis. There is also empirical analysis showing that Korea's hypersensitive reaction to changes in global financial conditions actually eased after the regime was introduced (Valentina Bruno and Shin Hyun Song, "Assessment of Korea's macroprudential policies," 2014, Scandinavian Journal of Economics). As a small open economy, and given the property of the won to depreciate procyclically in risk-off phases, the authorities' caution had a fundamental justification.
The vision of Shin Hyun Song, governor of the Bank of Korea, sits right here. With dollar liquidity sound, he sees no reason to equate the exchange rate with financial instability, yet he made clear he would intervene if volatility becomes excessive. One cause of exchange-rate volatility cited is the offshore non-deliverable forward (NDF) market that settles only differences without real transactions, in a situation where there is no proper won settlement system offshore.
The prescription is "won internationalization," which absorbs NDF demand into the onshore forward market and broadens foreign access. This differs from controls that choke off capital flows. It is an attempt to expand the width and depth of the market to see those flows more clearly, and it aligns with the International Monetary Fund (IMF)'s recommendation for gradual, sequenced opening in a Korean implementation that distinguishes control from supervision. The diagnosis that this is not a crisis and the prescription to fix market structure rather than the exchange-rate level meet on a single line.
Of course, saying it is not a crisis cannot be a declaration that nothing is wrong. Even if the system is sound, the expense is never distributed evenly. Higher import prices squeeze low-income households' tables first, and a high exchange rate bears down first on students abroad, travelers, and those who have built assets only in won. On the other side, exporting corporations and holders of dollars and overseas assets benefit. Macroprudence does not exempt micro-level pain, so the judgment that this is not a crisis is not where policy stops but where it truly starts.
A real crisis always leaves traces. The swap rate collapses, CDS spikes, foreign reserves plunge in the course of defense, banks' dollar funding seizes up, and the foreign-currency LCR crumples. None of that has happened now. What we should be watching is not the number stamped on the exchange board, but these indicators.
1,560 won certainly hurts. But pain is not the same as peril. What is most needed is the composure not to mistake a weak currency for a system in breakdown. Weakness rooted in structure is not a crisis, and the answer is not in managing the exchange-rate level. Widen and deepen the market, and build the capacity to watch capital flows clearly. The answer lies beyond.