By Kim Jae-kyoung
Staff reporter
The Bank of Korea (BOK) said Wednesday that it will ban local financial firms from extending foreign currency loans for domestic investment in a bid to help ease volatility of capital flows and the currency market.
But they will be permitted to provide such loans for smaller companies with difficulties in raising funds overseas. Those subject to the new rule are 55 local banks and financial firms, including foreign bank branches here.
"We expect the new measures to help curb a sharp increase in external borrowing, reducing local firms' exposure to foreign exchange risks," BOK economist Lee Soon-ho said.
The outstanding balance of foreign currency loans increased by $2.2 billion to $44.53 billion for the first four months of the year as foreign bank branches saw their foreign currency loans jump by $2.49 billion. Such loans declined by $8.2 billion in 2009 in the aftermath of the global financial turmoil.
"Foreign currency loans for domestic investment has decreased since last year but there are growing expectations that such loans will grow in line with a strengthening of the Korean won fueled by an economic recovery," Lee said.
His comments indicate that the government is seeking to curb a rise in foreign debts by reducing the demand for foreign currencies and to prevent financial volatility caused by a sudden capital outflow.
The move is part of the government's set of measures unveiled on June 13 to ease the wild fluctuation of the local currency market and to reduce short-term foreign debt.
Under the measures, foreign banks will also be restricted from having foreign exchange derivative positions larger than 250 percent of their capital. They currently have forward contracts of as much as 900 percent of their capital.
"I am broadly supportive of measures to slow down the short-term movement of capital through the currency market, now that the extreme volatility of the international movement of financial capital, in general, and the unnecessarily high vulnerability of the Korean currency market to such volatility, have been amply proven by the latest crisis," National Strategy Institute President Young Soo-gil said.
"I think that the confidence in the Korean currency is still too low, relative to reserve currencies, for it to enjoy freedom from some such regulation without gyrating wildly at times of financial instability," he added.