Wild Days and Nights of Korean Won Intervention

♠ Posted by Emmanuel in ,, at 5/31/2010 12:08:00 AM
Asian developing countries are noted for their highly involved approaches to foreign exchange policy. Perhaps this is a natural result of being export-oriented: sustaining large trade surpluses involves no small attention to currency matters. Just as Japan's model of export-led industrialization set a template for other Asian economies wishing to follow in its lead--Akamatsu-san famously called it the "flying geese model" (with Japan in front)--its policy choices have filtered down to other wannabe economic powerhouses. Although Japan has not intervened in the currency markets for a very long time, other Asian economies have not hesitated to demonstrate what exactly a "managed float," or more condescendingly, a "dirty float" is.

However, one thing most commentators (like American lawmakers, say) don't make more of is that Asian countries intervene to both strengthen and weaken their currencies based on perceptions of prevailing economic conditions. During the Asian financial crisis, the region was obviously preoccupied with maintaining the value of their currencies as speculators bet on devaluation. Many didn't beat the speculators, but some did. Around 2007 when the dollar was in a free fall, many of these same countries then began to buy dollars and sell their local currencies to ensure continued export competitiveness. And we all know what China has been up to all this time.

It seems old habits die hard. As you know, South Korea has been hit by political turmoil as the country grapples with how to deal with North Korea over the sinking of a warship that caused the loss of 46 lives. A formal peace has never been declared between these warring states and tensions are again high. Along with sinking equity markets, South Korea has been hit by volatility in the all-important currency market. Last Wednesday, its financial authorities signalled that they would be taking a more active approach to dealing with FX matters:
“Authorities will supply sufficient foreign currency liquidity if needed,” Vice Finance Minister Yim Jong Yong said at an emergency meeting of officials from the Finance Ministry, central bank, economy ministry and financial watchdog in Gwacheon today. “We will be closely watching for herd behavior in the currency market and take necessary actions in a prompt and active manner...”

South Korean Finance Minister Yoon Jeung Hyun said today the government is “ready to cope with” the volatility in financial markets given its substantial foreign-currency reserves. The reserves totaled a record $278.9 billion at the end of April, 31 percent more than a year earlier.
"Active" is the key word here. And so South Korea has once again waded into familiar waters of Asian currency intervention. Yet, an even more notable thing is the recent bounceback of the won being deemed as perhaps too excessive. Call it a fine line to walk between perceptions of a free-falling currency and maintaining export competitiveness. Instead of waiting weeks or months to see the fruits of their actions, Korea's central bank is believed to have step in again just a day after on Thursday to stem won appreciation!
The South Korean won soared nearly 3% during Asian trade Thursday on heavy buying by offshore players and exporters but pared those gains in the afternoon session following suspected intervention by the central bank. Traders were surprised by the central bank's suspected moves to support the dollar as it would mark a reversal from its reckoned selling of the greenback just days earlier, when the won had fallen to a 10-month low due to rising geopolitical tensions between the two Koreas.

"This seems to be a means to prevent excessive (one-sided) moves," given the won's sharp gains earlier in the day, said a local bank trader. "But I personally don't understand this." Authorities likely stepped in Thursday near the dollar's intraday low of KRW1,217.50, lifting it to KRW1,224.0, several local traders said. Two of those traders estimated the central bank to have bought between $500 million and $1 billion, possibly through two foreign banks.
You can make the argument that all this busywork is part of an overall effort to stabilize the won within an acceptable range. In line with this argument, financial authorities are keen on limiting derivatives trading involving the Korean won to also limit the range of currency fluctuation:
“The events of the past week gave us another reminder of the impact of capital flows driven by short-term market-driven dynamics rather then the economic fundamentals,” said Shin Hyun-song, the South Korean president’s senior adviser on international economy. Mr Shin said the government was considering “various options” for regulating currency forward positions for domestic banks and the Korean branches of foreign banks. He insisted that any measures would be introduced carefully to allow market participants a “smooth transition...”

At the end of last year, financial regulators limited the size of forward transactions by local companies to no more than 125 per cent of the revenues they were hedging. Exporters, especially shipbuilders, were accused of overhedging foreign orders, putting upward pressure on the won before the global financial crisis hit the country.
Talk about playing both ends with some mustard on the side. If true, these actions set a new standard for central bank activism. And you though the Chinese and Japanese were pretty active on the management of currencies front. South Korea, you are our new king of the hill in this arena. The "overmanaged float," perhaps?