Korea Braces for US-Type Financial Crisis in September
By Kim Jae-kyoung
Staff Reporter
South Korea is expected to face one of its biggest economic challenges in September with the specter of a financial crisis looming larger and the nation's financial soundness rapidly worsening amid deepening economic woes.
In particular, the recent exodus of foreign funds has renewed fears over the so-called September crisis, concerns expressed by market participants over a possible liquidity problem that month.
In September, $6.71 billion in bonds held by foreigners will mature. If they liquidate the bonds en masse, chances are that it will result in the won's sharp depreciation and a rise in interest rates, forcing many local financial firms and corporations into bankruptcy.
Cheong Wa Dae, however, said the September crisis scenario was exaggerated. ``It isn't right to exaggerate the crisis scenario at this point. When comparing what we owe with what others owe us, there's around $100 billion surplus,'' a Cheong Wa Dae official said Sunday.
In its latest report, Hyundai Economic Research Institute said that Korea should brace for a U.S.-type financial crisis as the country's financial soundness has been growing worse at an alarmingly fast pace.
``Chances are slim that Korea will undergo a financial crisis. But the country is not immune from such a crisis because there exists potential risks that can lead to financial crisis depending on the future development of economic conditions,'' the report said.
``The U.S.' financial soundness went downhill rapidly after it entered a stage of the financial crisis,'' it added. ``Given that our soundness is in bad shape, it is time to take a preemptive measure to prevent it from taking a U.S.-type sudden bad turn.''
According to the report, the nation's financial soundness index dipped to 44.9 in the first quarter from 69.2 in 2007, due to slowing growth of housing prices, rising overdue rates in the banking sector and a fall in individuals' financial asset-to-debt ratio.
The index is calculated by factoring in home price growth rates, the overdue rate at lending institutions and the growth rate for individuals' financial asset-to-debt ratio. An index of less than 50 means that financial soundness is getting worse.
The report pointed out that the U.S.' financial soundness fell to 13.8 in the first quarter from 37.3 in 2007 when the world's largest economy entered a phase of credit crisis.
Combined with worsening financial soundness, recent developments in the financial market and economy ― massive foreign capital outflow, falling foreign reserves and rising national debt ― are heightening concerns over a possible financial crisis.
Both stock and currency markets have continued their roller coaster rides as foreign investors scrambled to exit due to financial woes in the U.S. market, a weakening of the local currency and the country's heavy debt burden.
According to the Bank of Korea, the capital account, which tracks cross-border investments, posted a net capital outflow of $5.8 billion in July, the largest monthly outflow since December 1997 when the country saw a net outflow of $6.37 billion.
The massive dollar outflow is expected to exacerbate the country's net external position by forcing financial firms to borrow more abroad, making the financial market more vulnerable to external shocks.
With rising foreign debts, Korea is expected to become a net debtor for the first time in eight years in the months to come. Net external credit for Korea plunged to $2.71 billion in June, a drastic setback from $13.16 billion in March.
Citigroup economist Oh Suk-tae said that a heavy debt burden has become one of the key risks for the Korean economy, playing a role in weakening the local currency.
``Concern about potentially large foreign capital outflows from the bond market also reflects financial market worries about debt problems,'' he said.
The current account deficit reached $2.45 billion last month, bringing the cumulative shortfall for the year to July to $7.8 billion. The trade account finished $300 million in the black, down sharply from a $3.5 billion surplus the previous month.
With the imbalance in cross-border investments, the local currency has been weakening against the U.S. dollar. The local currency lost 7.63 percent against the greenback this month, the second largest fall among the 19 major currencies.
In order to stop a slide of the won, the central bank squandered foreign reserves. As a result, the reserves came to $247.5 billion in July, down $10.58 billion from the previous month, the biggest monthly drop in history.
On top of that, the economy is expected to go further downhill, with the key leading economic indicators falling for the sixth consecutive month. Economic growth is expected to fall to 3.9 percent in the second half.
``In order to stave off a financial crisis, the government should make more efforts to prevent a sudden downturn in the property market and to improve financial soundness at local lenders by revamping the credit risk evaluation system,'' a Hyundai analyst said.
``In addition, more efforts should be made to prevent volatility in the currency market through smoothing operation,'' he added. ``The central bank should maintain sufficient foreign reserves to head off the September crisis,'' he added.