Ominous Sign: South Korea Is Selling US Dollar20 September, 2011, 23:46. Posted by Zarathustra
Tags: Economy, South Korea, Won
Truth be told, there are a lot of people around who just hate US dollar, thinking that it is going to become toilet paper. As a result of US downgrade and some subsequent market turmoil, some actually suggested that Asian currencies might be pretty safe. Of course, I have been taking the totally opposite position and remain very confident in the US dollar.
In discussing the macro risks of the Hong Kong real estate market (and some more updated views here), I have noted that the danger of sudden outflow of money would have serious consequence to the market here. Months ago, people thought there is no reason why money should be flowing back to US dollar. But it is indeed happening, as demonstrated by the recent strength of the US dollar.
The reason that money has to be pulled out of emerging markets (EM) back to US dollar in financial crisis (e.g. 2008) is that as there was some serious deleveraging going on because the credit market was seized up, there was a shortage of US dollar supply. It is not too surprising that those with investments in emerging markets would sell those currencies for US dollar in order to extinguish the debts, so to speak. If the credit market seizes up again as the European debt crisis continues to unfold, we should not be surprising to see that happening again for the US dollar and Euro (yes, I include Euro here, as I see some possibility of desperate money flowing into Europe as market seizes up there).
Today’s report from Reuters on South Korea is rather ominous. Not long ago the Bank of Korea was buying gold. Now, according to Reuters, South Korea is selling US dollar to counter the slide in Korean Won, essentially to support its currency.
South Korean authorities intervened in the currency market on Tuesday and the country’s top foreign exchange official warned those betting against the currency as the Asian nation sought to avert a repeat of the capital flight it had in 2008.
The won lost as much as 1.7 percent on Tuesday and fell to a nine-month low against the dollar, while the benchmark stock index initially fell 1.5 percent as foreign investors offloaded their holdings.
The index later changed course and ended up 0.9 percent as domestic investors bought in.
But foreigners sold a net 185 billion won ($162.7 million) of shares and 887 billion won of treasury bond futures, Thomson Reuters data shows. They have sold nearly 6 trillion won worth of stocks since Aug 1.
I am not familiar with the Korean economy, but one part in the report really caught my attention:
South Korea’s heavy overseas borrowings and high household debt rank it higher among potential victims of the turmoil.
That’s not only ominous, but is something which reminds people of the 1997 Asian Financial Crisis. I don’t think something that big is going to happen to Asia for the time being, however, though one has to be concerned about capital outflow from EM, and to understand what that means to the money supply and credit for those economies with currency pegs.
In short, to defend the currency against capital outflow, money supply will be contracted, and that is very pro-cyclical.