It’s been a rough first half of the year for the South Korean won, which has weakened against the U.S. dollar amid the greenback’s dominance and the Japanese Yen’s prolonged slide. The won-dollar exchange rate surpassed the 1,400 won mark in April - a level that has been breached only three times before - and has since mostly remained above the 1,350 won band.
While foreign exchange officials and the Bank of Korea expect the won to cease depreciating as market conditions recover in the second half of the year, experts are still wary of potential turbulence. They point to the upcoming U.S. presidential election, U.S. interest rate cut prospects, the Bank of Japan’s policy changes and uncertainty around China’s economy as factors that could either lift or push down the value of the won.
The Korean won slipped nearly 6% against the dollar through June this year, according to the BOK’s Economic Statistics System (ECOS) on July 7. The won-dollar exchange rate, which closed at 1,300.4 on the first trading day of the year (January 2), temporarily crossed the 1,400 won mark on April 16 as the won’s value dropped sharply against an unexpectedly strong dollar, and closed at 1,376.7 on June 28, the last trading day of the first half of this year.
Several factors contributed to the won’s depreciation. A strong dollar, boosted by geopolitical turmoil in the Middle East and expectations that the Federal Reserve will cut interest rates only once or twice this year amid a resilient U.S. economy. The dollar index, which tracks the world’s dominant reserve currency against a basket of six major currencies, rose 4% or so in the first half of this year.
A weakening Japanese yen and Chinese yuan also adversely affected the Korean currency. The value of the won tends to move in tandem with the currencies of the two neighboring countries, as a falling yen or yuan raises the dollar’s value relative to these currencies, pushing down the won even further.
The yen recently plunged to a 38-year low against the dollar, past the level it reached in April. The yen has been chronically depreciated largely because of the Bank of Japan’s 8-year negative interest rate policy. Although the BOJ ended its negative interest rate policy in March, the central bank has been cautious about rate increases, opting for a gradual and slow policy shift. The Chinese currency also dropped to an 8-month low against the dollar this month amid a widening interest rate differential between the U.S. and China.
South Korea’s foreign exchange authorities have attempted to soothe investors by stressing that the won’s slide is not an isolated event but a phenomenon affecting most Asian currencies.
Compared to the won’s dramatic plunge in 2022, the currency’s recent slide is considered “moderate,” the BOK assessed in its Financial Stability Report released in June. “Divergence in monetary policy among advanced nations, sluggish investment sentiment, geopolitical risks heightened by the Russian invasion of Ukraine and rising oil prices boosted the dollar in 2022, causing the won to weaken,” the BOK wrote in the report. Adding to such woes, a domestic credit crisis caused by a default in project financing for the construction of the Legoland Korea amusement park rattled the country’s money markets, sending the won-dollar exchange rate past the 1,400 won mark in November 2022.
The BOK said market conditions this year were significantly better, adding that the won’s drop in the first half of this year was mostly attributed to “China’s economic uncertainty, concerns about energy price spikes amid Middle East tensions, considering that many Asian countries, including South Korea, are highly dependent on energy imports, and Japan’s slower-than-expected monetary policy shift.”
The central bank expects the won’s value to rise gradually towards year-end, but risk factors remain.
The Fed’s rate cut outlook is set to influence the dollar’s course until the end of the year. Fed minutes released earlier this week showed that Federal Reserve officials needed “greater confidence” that inflation was moving toward 2% to begin lowering rates, indicating that rate cuts aren’t likely to start later this month. Relieved by cooling inflation, markets are betting on a September rate cut. U.S. inflation dropped to 2.6% year-on-year in May, boosting hopes for a rate cut and bringing the dollar index under the 105 mark.
Foreign exchange analysts also list political and geopolitical turmoil as factors that could bolster the dollar’s value. “French elections, UK general elections, Japan’s possible currency intervention and the U.S. jobs report are all factors that could affect the dollar, and in turn, the won,” said Park Sang-hyun, an analyst at Hi Investment & Securities. “Given such market conditions, the Korean won, Japanese yen and Chinese yuan are set for a ‘triple depreciation’ in the short term,” he added.
A possible Trump presidency could also strengthen the dollar, adding downward pressure to the won. “The dollar rallied after the U.S. presidential debate because markets perceived higher chances of Trump winning the November elections,” said Min Kyung-won, a foreign exchange analyst at Woori Bank.
