Korean Economy More Exposed to External Risks
This is the second in a 10-part series of articles on the numerous challenges surrounding Korea one year after the collapse of Lehman Brothers. The Korea Times will look into pending issues and recommend some solutions for the country to become a force in the global scene in the post-crisis era. ― ED.
By Lee Hyo-sik
Staff Reporter
South Korea has been put under the spotlight in the global community as its economy is recovering at the fastest pace in the world, with a record-high trade surplus, stock market rallies and the strengthening of the Korean won.
But Asia's fourth-largest economy still remains vulnerable to outside shocks as it depends heavily on overseas demand for growth, with local banks' heavy borrowing of foreign short-term loans, making the nation more susceptible to sudden changes in other parts of the world.
Analysts here say Korea should make an all-out effort to reduce its reliance on the rest of the world by boosting the domestic market. They also said the government should expand foreign exchange reserves to more effectively cope with a possible massive outflow of dollars, while local financial firms should be encouraged to take out long-term loans from overseas.
Following the collapse of Lehman Brothers a year ago, foreign investors dumped local stocks and bonds, and took dollars out of the country en masse, sending share prices and the Korean won into a nosedive.
To make up for a dollar shortage amid the global credit crunch, the government tried to issue sovereign bonds but failed to do so because investors demanded extremely high interest rates.
The local currency was depreciating sharply against the dollar and the yen, and foreign exchange reserves were shrinking rapidly, with many foreigners raising the possibility that the nation could face a recurrence of the 1997 foreign exchange crisis.
But with the signing of a currency swap deal with the U.S. and a range of government steps to stabilize the financial sector and the overall economy, Korea was able to emerge from the worst crisis in a decade and has become one of the most resilient economies today.
Analysts, however, say that the nation will likely undergo the same ordeal if the global economy is hit by another financial market debacle, due to its excessive dependence on foreign markets for growth and heavy borrowing.
Exports account for 75.1 percent of Korea's gross domestic product, much higher than Japan's 30.2 percent, making the country extremely vulnerable to external shocks.
Additionally, its emerging economy status makes it more sensitive to changes in other countries.
When the world economy is good, foreigners bring money into developing economies for greater returns. But when it turns bad, they take money out and move to the U.S. and other advanced nations, hitting countries such as Korea hard.
Also, the country's high external debt, particularly from short-term borrowing, makes it difficult to shield it from what happens outside. According to the Bank of Korea (BOK), the nation's foreign liabilities increased by $11 billion to $380.12 billion as of the end of June from three months earlier, with short-term debts accounting for 38.7 percent, down from 39.6 percent.
"Compared to a year ago, the nations' external conditions improved substantially, with the portion of short-term debt declining. But the portion is still higher than those of other economies. The government should overhaul relevant financial regulations to make it more attractive for banks to take out long-term loans," Korea Development Institute economist Lim Kyung-mook said.
LG Economic Research Institute economist Shin Min-young said the nation should increase its currency reserves to as high as to $300 billion to more effectively deal with future financial market turmoil. The reserves reached $240.9 billion in August, rising for the sixth straight month, according to the central bank.
"Considering external short-term debt and import amounts for three months, we should hold at least $257 billion in currency reserves. If we take emerging market discounts into account, Korea should boost its reserves to $298.3 billion," Shin said.