By Cynthia Kim and Yena Park
SEOUL (Reuters) – As South Korea seeks to raise the global profile of its financial markets, the export power is struggling to ease tight currency restrictions that have been a major problem for investors and traders in the country for years.
Asia's fourth-largest economy is in many ways one of the most advanced in the world but has been unable to shake off its emerging market designation due to a host of issues, including the way its currency is managed.
While foreign exchange regulators are currently considering modest steps to make the won more global, such as expanding trading hours, memories of painful foreign exchange crises cast a long shadow over the reforms.
For many firms and market participants, South Korea's opaque restrictions on cross-border transactions, daily reporting requirements and brokerage rules make doing business slow and costly.
“Having foreign exchange markets open 24 hours almost all day will certainly help us plan currency conversions better and do better business,” said Bongju Kang, chief financial officer of a small plastic materials exporter. “Currently we negotiate the exchange rate with a local banker as soon as we see a good offer, or sometimes hours in advance, especially if it is a large deal.”
Currency restrictions are among the factors often blamed for the so-called Korea discount, the term used for the global underperformance of local stocks. Other problems include poor decision-making and weak governance by large corporations.
According to regulators, thorough monitoring of the foreign exchange market is still necessary to prevent destabilizing currency fluctuations.
“We need to monitor the market during periods of volatility as liquidity in the onshore market is not always so plentiful,” a Bank of Korea official said.
Shin Joong-beom, head of the Finance Ministry's International Financial Office, said regulators would maintain the current monitoring system and “be prepared to quickly detect and respond to any disruptive market behavior.”
The story goes on
Until last year, the won could only be exchanged for the dollar or Chinese yuan directly at a total of 56 financial institutions based in the country for six and a half hours a day through authorized brokers in Seoul.
That meant higher costs for companies as they had to rely on derivative contracts called non-deliverable forwards to manage exposure to the won outside of the onshore trading window of 9 a.m. to 3:30 p.m.
From July, South Korea will expand trading until 2 a.m. to cover London hours, and the country expects greater foreign participation as about 20 foreign banks will apply to join the interbank market, according to the Finance Ministry.
These changes come as part of President Yoon Suk-yeol's broader reforms to eliminate the Korea discount and increase investment by investing the country in top-tier indices such as the FTSE World Government Bond Index (WGBI) and MSCI's developed market benchmarks is recorded. It is estimated that the inclusion of WGBI could attract up to $70 billion in inflows.
But analysts and market participants say the growing political appetite for reform has yet to translate into changes that would noticeably boost won trading.
“As international banks have only partial access to the Korean interbank market and there are no plans for an offshore market in sight, we do not expect the accessibility of the Korean financial market to change significantly as a result of the extended trading hours,” said Simon Harvey, head of FX analysis at Monex Europe.
BIGGER THAN THE POUND?
According to 2022 data from the Bank of International Settlements, $66 billion worth of won trade per day accounts for about 1% of global foreign exchange volume, less than 3% for the Canadian dollar and 6% for the British pound.
This keeps South Korea among the emerging markets as the won trade volume relative to GDP remained at around 8%, similar to the Polish zloty and the Chilean peso.
“There is no reason why the won cannot overtake the British pound if foreign exchange rules are relaxed enough to give the market a chance to catch up with the global exporters we have today,” said Kim Hee-jin, Commercial Manager at Shinhan Bank.
Unlike the Hong Kong dollar or the Hong Kong pound, foreign banks must trade the won through the two Korean spot trading brokers and pay a commission to a local bank to comply with their reporting obligations to authorities.
Foreign banks are also not allowed to trade the won directly abroad.
The strong focus on market surveillance reflects, in part, a hypervigilant mindset that emerged in the wake of financial traumas such as the 1997 Asian financial crisis and the 2008 global financial crisis.
Currently, the BOK can audit any dollar-won transaction through brokers. This system was set up decades ago to prevent a repeat of the capital flight of 1997, when the won lost half its value.
“Rules for won trading really don’t exist anywhere,” said a trader with decades of experience at global banks who asked not to be named.
“Korea is opening the market, but that doesn’t mean everyone can join in and trade with the won.”
(Additional reporting by Jihoon Lee in Seoul and Rae Wee in Singapore. Editing by Sam Holmes.)
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