The Korean economy is still growing like a weed. However, that’s not necessarily all good news.
The good:
- The South Korean economy grew 7.1% in the second quarter 2010, the highest rate of all OECD countries. Thus, the IMF has raised Korea’s growth estimates for fiscal year end 2010 to 6.1% from the previous estimate of 5.75%.
- The International Monetary Fund says Korea’s ability to service (i.e. pay off) their debt hit a near three year high in the 2nd quarter. Thus, the IMF says that South Korea has the “best fiscal soundness” in the OECD.
- Most of the big Korean companies are doing well. The KOSPI (“Korea Composite Stock Price Index”) is booming and hits a new 27 month high.
- Unemployment in South Korea continues to be very low.
The bad:
- This is not good in my opinion, but the BOK (“Bank of Korea”) did not raise interest rates as expected. The BOK, as a central bank, is theoretically suppose to be independent of the government, but the government may have more say so in monetary policy than is prudent. The IMF sent a strong recommendation to the Korean government to cut it out. Methinks that the LMB administration is, for better or for worse, hell-bent on meeting their campaign goal of 7% GDP growth (even if it is only for one year or a couple of quarters).
- A macroeconomic byproduct of too much growth is inflation, and it is rearing its ugly head in Korea. What is known as the “Engel’s coefficient,” the ratio of household incomes to food purchases, is the highest in 9 years, meaning that Koreans are paying more to put food on the table then they have in almost a decade. High inflation will eventually always kill economic growth.
- Korea’s real estate boom is slowing. People are retracting and buying less property and “delevering,” which is just a technical way of saying that people are hunkering down and paying off their debt and not accumulating more debt.
- The BOK is likely playing around with the won and manipulating its value. Of course, they are doing so to keep it low, or at least slowing natural pressure for its appreciation. Clearly, a lower value won makes Korean exports cheaper and increases their demand. Japan, another export driven economy, is following suit.
- Korea’s exposure to the global economy rises. Although it is the 8th largest exporter in the world, this only makes the economy more susceptible to more global economic slowdown.
- So much for LMB’s “Fair Society.” The income divide continues to worsen.
It appears the Korean government has decided that the traditional stand-by of growing via exports is how they are going to get through the Great Recession. However, with inflation rising noticeably, this will dampen domestic demand and may wash out at least some gains from increased export demand. It’s a fine line the Korean government and the BOK is walking and I’m not a big fan of it. I’d guess that the Korean government has “doubled down” on the belief that there won’t be a double dip recession. However, if there is a double dip recession, then the Korean economy, given its exposure to exports and possible weakening domestic demand, will be caught with its pants down. This is probably why Goldman Sachs is just lukewarm on the Korean economy regardless of whatever glowing things the IMF is saying.
Overall, the Korean economy is booming, but it helps the biggest companies the most and it’s not the highest quality economic growth. Plus, it’s not exactly evenly distributed among the general Korean population.
UPDATE: Via specific request by Wedge. The ugly:
- According to the JoongAng Daily, the Republic of Pointless and Universal Face Time is unlikely to change until crabby, hardcore and middle-aged ajosshis stop occupying top management spots. Clearly, this won’t happen for awhile.
{ 36 comments… read them below or add one }
Not very good but still better than most developed economies around the world, S.Korea was only 2nd country to grow after China. First of all, I’m not sure rising interest rate is good thing when many SME companies in Korea are currently in recovery state. Secondly, Korean property market is saturated, so if less people are looking to buy properties than they have more money to spend on other things. Thirdly, Korea was already have been depended on global economy because Korean economy is export oriented at same time Korea have became one of largest purchaser of natural resource and foods, so if Korea is not getting enough export than they will buy less from overseas. And lastly, average food price have been rising ever since dawn of the human race. Nearly every countries in the world are paying lot more for the quality food.
Wangkon,
I usually can’t pay attention for too long to any discussion about economics, but I found your post to be very clear and interesting.
Thanks for the good read.
Yet one more reason to ignore “predictions” by financial analysts.
Agriculture protectionism in Korea has always forced Korean families to shell out a greater proportion of their income for food than other OECD countries.
Sometimes there are other considerations beyond economics. Get rid of the agricultural trade barriers, and what becomes of Korea’s family-run farms and rural villages?
They’re dying already. The demographics are completely against Korea’s farming sector. In ten years, they’ll be importing Southeast Asian and Chiense males — not just women — to run their farms.
Unless Hubo’s ready to go…
#6. Not necessarily. Corporate farming could be the way of the future, as the food prices rise globally. If there’s money to make, the Chaebols will get into it somehow or other.
Besides that, I wouldn’t trust what IMF says about anything anymore. They’ve been wrong so many times, they shouldn’t be taken seriously.
From here and on, anything can happen to Korea and the global economy, when the double dip globally happens.
I agree with Seth @2 – this was a very good read…..really appreciate it.
Point of order: Any post that has The Good and The Bad also has to have The Ugly. Wah, wah, wah…
Here is Korea, so that should actually be “The Good, The Bad and The Weird”
WK: Thanks for restoring order in the universe. That was close.
The analysis is very accessible. Here’s something I can’t understand. Why is the Won rather weak against the US$ when the economy is buzzing, yet the Yen and even the Baht are strong. Japan has been in an economic funk for more than a decade, and Thailand is turning into a political basket case. It’s a naive question for those in the know, but neophytes like I would like to know.
“Sometimes there are other considerations beyond economics. Get rid of the agricultural trade barriers, and what becomes of Korea’s family-run farms and rural villages?”
Is a farm with an Indian manager, Cambodian labourers, and a couple of ageing harlmonies washing lettuce really a ‘Korean family farm’?
george,
That’s a good question, but at 1,159 won to a dollar it’s not that badly undervalued. I’d say 980-1,020 should be the correct amount.
I remember it has something to do with Korea’s high debt, export dependent economy, dependence on raw materials from abroad, etc. However, it is a good question. Give me some time to review.
What is known as the “Engel’s coefficient,” the ratio of household incomes to food purchases[...]
I believe you got that backward.
The Economist’s Big Mac index calculates the won to be approx. 25% undervalued to the the dollar… and the yen. The baht is even weaker. Of course this is a measure of PPP and therefore is theoretical, but this index is widely accepted as a decent measure of currencies’ under/over valuation. Other than knowing where you can get the cheapest Bic Mac what does this mean for you? An undervalued currency indicates your dollar/pound/euro will go further, i.e., more purchasing power; I use it to determine which countries I shall spend my holiday.
WK, I agree–very nice post. And the currency value question is something I’m very interested in, as I’m sitting on a considerable amount of KRW that I plan to move out of. (I was about to convert it earlier this year, but then the Cheonan got itself exploded and Greece shit the bed. Rates still haven’t recovered.) Any followup posts or insight into this would be greatly appreciated.
Re keeping the interest rate from going up–could this be due to the government’s fear of the real estate bubble popping if rates go up?
A higher interest rate could also attract capital inflows from those looking for better returns than found in Europe, US and Japan, which would lead to further strengthening of the won – keep in mind that the weak Chinese yuan in a big concern for the Korean exporters, especially the SMEs. If you believe a double dip is likely the won will weaken. Do you see a future of 1250 or 1050? And what currency do you plan to jump to? The dollar? Safer currencies are pretty dear right now. BTW, the BMI has been reporting the Korean won undervalued since the early nineties – the government likes it weak.
Point of order: It’s not a double dip if there’s no upward trend to reverse. The people who’ve been bleating that the recession is over are lying to you. But yes, I for one expect the US economy to worsen over the next two years. The only hope for Uncle Sam right now is a Republican sweep in the midterms and quick action to reverse the Obama agenda convincing businesses it’s safe to invest in America again.
Vote for the party of Hell No.
#19, It really doesn’t matter who is in power because they will continue the basic foundation of the US economy – an economy based on consumption and debt, which is the real cause of the current financial crisis. And both parties will continue to try to perpetuate the same system. What the US economy needs is an austerity shock system, and let the depression happen. But both parties are politically too cowardly to face a public that’s gotten used to generous entitlements and who will cause a revolution on the streets if there’s any cut backs.
As for Korea, they can go in two ways. If the US goes to hell (economy actually gets worse), foreign investors will once again flee Korea and the Korean won will come under pressure. But this will not hurt Korea, because Korea is not like Greece where they don’t have anything to sell. It will mean the Korean exports will shoot up again, while imports slide – leading to huge trade and account surpluses which will keep the Korean economy floating. Just look at the currency crisis of 1997 and 2008, and how that has lead to booms after. But the problem is that if the global economy takes the bomb and collapses, no matter how cheaply Korea can offer its goods, it won’t matter because the global economy is in hell, and nobody can afford to buy anything at any price.
We’re living in unprecedented times. Hold on to your hats because this ride is getting interesting.
Perhaps. But perhaps, like Hugo von Hofmannsthal said over 100 years ago, “In our time, too much fuss is made about our time.”
Looking forward to your research, WK.
Seouldout – when you say the Baht is even weaker, do you mean it should be something like 25B to a dollar rather than the current 31?
“However, it is a good question. Give me some time to review.”
I don’t know why you would even need to spend much time on this. The value of money is as good as what others perceive it as to be. Money represents country’s reputation, credibility, and confidence in its economy – it’s the perception, not necessarily the reality. And it’s obvious not many investors outside of Korea (except maybe for China) thinks much of Korea, otherwise, they’d be buying up the Won to hedge against the other currencies.
If the baht was 25B to a dollar it, the baht, would be stronger – it’s counter intuitive. The weakness mentioned is the BMI’s report that the baht is undervalued by approx. 40%. If the baht recovers to 25 this would put it back to its pre-IMF crisis rate, when it was pegged to the dollar. For those of you paid in won, you may be interested to know the pre-IMF won/dollar rate was at 750-800 /1.
Yes, that is called fiat currency, which is what every currency regime in the world is under. Nothing directly backs up the value of money… except “In God We Trust.” I jest… I jest…
The best analogy here are stocks. No, seriously… hear me out. The value of a stock is theoretically determined by its profits but there are plenty of unprofitable companies with relatively high stock valuations. So, what really drives stock prices? It’s demand and what drives demand in a stock is how “confident” you feel about said company’s future prospects, its reputation, assets, etc., etc. Thus, the value of money is the “confidence” that investors feel about said country. Think of the U.S. as a huge company with great reputation, size, lots of assets but with very low (or no) profitability and a really really crappy balance sheet. But people still buy dollars (and dollar denoted U.S. debt) because of the U.S.’s brand image, reputation and still considerable assets (including still well maintained military assets left over from the Cold War).
One of the reasons why Korea is not a “reserve currency” is the relative immaturity of Korea’s international financial markets. Korea has a very primitive bond market. Being a world “reserve currency” would certainly help stabilize the won. Considering the size and relative stability of Korea’s economy, the won is highly unstable.
wk, george, cm
what cm says is true but it is not the whole story. There is a lot more to this than perception. Math is involved.
Three major factors of currency valuation are: economic performance, interest rates, and the current account. While the economic performance of Japan would actually indicate the currency should depreciate, the perceived strength of the Japanese economy (that it won’t default on its debts and that it has a rosy future) means that factor is actually being stifled by the other two factors, interest rates and current accounts to determine the current valuation of the Japanese yen.
In terms of interest rates, the whole world is resembling more like Japan, making Japan lose the comparative disadvantage it had with the comparatively low interest rate it had before the crisis. Whereas before, the rest of the world had several times the rate of Japan’s, now everyone else cut down on their rates during the crisis, putting them all on equal footing.
The Japanese deflation problem actually plays a role in the fate of its currency. Because the yen is so cheap in terms of borrowing and there is deflation, the deflation adds onto the interest an individual can gain from buying Japanese bonds and Japanese yen. If you buy and hold Japanese yen, you can effectively bet on deflation in the long run, which is looking rather plausible and attractive with the current state of the Japanese economy and politics. The current deflation is actually making the currency look even more attractive.
There is also the argument that the yen was actually undervalued before the crisis and the current move is a move towards the true value of the yen. In fact, the current rate of deflation actually still puts the Japanese economy, even with the appreciation of the yen, below the average spending valuation since the 1990s. (see http://www.economist.com/node/16792926?story_id=16792926).
The bigger element to consider is the Japanese current account surplus. Japan has a huge current account surplus with the rest of the world, meaning the amount of foreign income – foreign obligations is a net gain for Japan. That indicates yen is generally flowing into Japan, not out, leading to the yen appreciating. For Japan to depreciate, yen needs to flow out of the country, either through printing, intervention, or lending/buying of foreign assets. This third option is currently underway through natural forces, as the high value of the Japanese yen makes it easy for Japanese companies to induce mergers and acquisitions abroad (http://www.economist.com/blogs/asiaview/2010/07/japanese_mergers_and_acquisitions). However, it may not be happening fast enough as many people like, which is leading to the Japanese government vowing to intervene yesterday.
shrug,
Another factor is China. They hold 2.5 trillion of currency reserves and they believe too much of that is in U.S. dollars so they are buying up a lot of yen and won.
So, the Japanese buy up the dollars that the Chinese are selling because the Chinese buying up yen makes the yen appreciate. Yen appreciation makes a Sony HDTV more expensive and Joe Consumer buys a Samsung HDTV instead.
http://blogs.wsj.com/japanrealtime/2010/09/16/dont-worry-about-china-japan-will-finance-us-debt/
The value of currency is tethered by math and fundamentals but there is a very wide band between all that and that’s actual demand for the currency in question which is often driven by the more qualitative points mentioned above.
Well… the real winner is the U.S. dollar, which still ends up being the reserve currency of choice and thus its value is held up. However, given the current state of the U.S. economy a cheaper dollar may not be a bad thing.
The persistence and depth of this recession I blame Greece and the other PIGS. Damn them. Damn them to hell.
Something like 20, 21 years ago the won was as strong as 650:1. Anyway before the Asian currency crisis it was well under 1000. The Baht was pegged at around 25, and the Yen fluctuated between 125 to 85. Then came the crisis and the won shrunk to, I believe, over 1900, the Baht to over 60, and, in a strange year long delay the Yen to around 160. Since then, both the Baht and the Yen have pretty much strengthened to their current values, and the Won followed a similar trend, going under 1000, before heading the other way. I find it curious that of the three, this only happened to the Won, especially since of the three nations, Korea’s economy has certainly had a sounder performance. Japan’s economy is on a larger scale, but has never really come out of the doldrums in sunk into in the early 90s. And, as I understand, even if economic performance can be considered entirely separately from political performance, Thailand’s economy has not done too well. Shrug, WK and Seouldout all provide helpful explanations, Shrug especially in regards to Japan’s circumstances, and WK for briefly summarizing China’s impact on the Yen and Dollar.
Curious indeed.
Nothing really to be curious… Economic performance has little to do with the currency except in extreme cases (where it is a basket case or something)
Take what I said but apply it to Korea.
Korea has inflation and an aggressive central bank with no relative advantage in terms of interest rates. this means people don’t really feel compelled to buy won.
Korea has a huge current account deficit. This means there is a flood of Korean money out there, meaning money is flowing out of Korea. Case in point, it almost had a liquidity problem with the crisis.
What this means is that the won depreciates in the event of a shock. It helps out exporters, hurts, importers, helps bring in money into the country, fixing the current account naturally by allowing foreigners to invest in Korea more cheaply and Korean companies to sell their goods abroad and bring in the money.
As Korea’s economy reduces its CA deficit, the won will appreciate in the medium run, which will lead to a slowing of the reduction, until the level eventually stabilizes at some level, unless given some other shock or government intervention.
“Korea has a huge current account deficit. ”
I beg your pardon? Korea had huge current account surpluses since December 2008. And before 2008, they continued to rack up surpluses, years prior. Korea ran into problems with deficits in 2008, the only year when oil price shocks shocked the world.
(1)
In wondering why the Won isn’t stronger, you’re asking Why don’t more people want the Won? So you have to ask yourself who the ultimate buyers of currency are. Sure, every day millions of day-traders buy and sell $billions worth of currency pairs online – most of these transactions net out to about zero, with little real wealth created or destroyed for the traders. Ultimately, the only reason to own Won is if you can buy something with it. So, what can you buy with Won?
Not much. Saudi Arabia can’t pay for Norway’s lumber using Won. France can’t buy bananas from Honduras with it. A Canadian company can’t invest in an Indian call center using Won.
One thing you should be able to buy with Won is Korean companies. But it turns out that you can’t do that either. The developed world’s hedge funds and investment banks have hundreds of billions of cash ready to invest, but they can’t buy Korean companies with that money. The chaebol are all about one-third owned by their founding families. Cross-shareholding among the families means that the chaebol are more than 50% owned by the oligarchy. Add in huge Korean government investments by state-owned banks, pension funds and asset holding companies, and corporate Korea is about two-thirds to three-quarters owned internally. Those shares aren’t for sale. So, foreign investors CAN purchase some shares, and indeed the mutual funds and ETFs of the world all have small but significant chunks of Korean equities in their emerging market portfolio mix, but if foreigners tried to accumulate a large or controlling portion of any important company, they’d very quickly find that the shares simply aren’t for sale.
You can make direct inbound investment to start up an operation here, which theoretically would drive up the Won (You bring in USD to set up a company, and convert that money locally to Won, and spend that Won building your business). But why would I do that? Only if I can (a) earn profit and (b) get the profit out of Korea. (a) involves a comprehensive assessment of how good you think the business conditions are in Korea for your potential company, and I won’t go into that. (b) involves converting your Won into USD or some other reserve currency so you can get it out. Where does that money come from? You can only buy USD from someone willing to take your Won in exchange. Who wants your Won? You basically have to sell it back to the Korean government or a chebol (if you’re really desperate an investment bank might charge you a big haircut to take the Won off your hands). First off, this obviously drives down the price of Won again. Second, foreign financiers have had a lot of problems with this operation in the past, in that the Korean gov’t and banks have put all sorts of hurdles in the way of them getting USD out of Korea in any large scale. The simple fact is that the Won is not a fully convertible currency. That is, if you have $10 billion USD and you want some Yen, there are a thousand ways you can change them easily back and forth. But if you have 10 trillion Won and you want USD, then you don’t have many options.
The relevant term is illiquidity, and it has a price. At the quantities of money most people think of currency, hard cash is fully liquid. But at the quantities of money that global finance thinks of currency, liquidity can be a big issue. And if your currency is relatively illiquid, then it’s relatively less valuable.
(2)
Interesting short article on how China is quite craftily fucking over Japan simply by buying up Japanese bonds (thereby strengthening the Yen).
http://economistsview.typepad.com/timduy/2010/09/yen-intervention.html
(3)
WK – you blame all this on the PIIGS? Really…and how is it that such small economies were able to accumulate so much debt in the first place? It’s the same question as How were NINJA borrowers able to buy California dream homes in the first place?
Linkd,
Welcome back!
1) Very good point. I believe this ties into “immature financial markets” rationale bucket for a volatile/weak won.
2) I linked to a similar and even simpler article in my comment # 27.
3) Yes I love you too Linkd…
Btw… regarding the PIGS economies, I was being facetious.
“Then came the crisis and the won shrunk to, I believe, over 1900″
Well over, was up around 3,300 for a brief time, was a bit pissed at missing the peak due to the time taken to liquidise assets….
South America has a great future as the fruit&lettuce kiosk of Asia
#35: Welcome back. Nice to see your comments again.
You must log in to post a comment.
{ 1 trackback }