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Impact of U.S. Interest Rate Hike on Korea
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Impact of U.S. Interest Rate Hike on Korea
  • By Jack H. Park
  • December 21, 2015, 04:15
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The Federal Reserve raised the key interest rate on Dec. 16 for the first time in nine and half years after 2006. The 0.25 percentage point hike, in particular, signals a significant impact on emerging economies. The Korean economy, which relies heavily on export, is likely to face a threat with its exports to emerging economies such as Brazil, Chile, Poland and Czech having amounted to US$333.4 billion last year to account for no less than 58.2 percent of its total exports for that year.

Some people say that its impact on the market will be limited, as the interest rate hike by the Fed has long been reflected in the market and Europe, China and Japan will continue with quantitative easing for the time being. Korea, in particular, is enjoying a relatively higher sovereign credit rating along with foreign exchange reserves of as much as US$368.5 billion with its economic fundamentals strengthened all the way since its economic crisis in 1997.

Still, the impact cannot be underestimated by any means with Korean households and enterprises having a total debt of approximately 1,200 trillion won and 2,000 trillion won, respectively, which are major parts of the total national debt estimated at around 5,000 trillion won as of now. Besides, Fed’s interest rate hike is expected to be repeated for three years to come until the rate reaches 3.5 percent or so. Under the circumstances, an increasing number of investors will leave Korea unless it raises its rate accordingly. In the third quarter of this year alone, US$10.9 billion flowed out of Korea, the largest among the total US$34 billion flowed from emerging economies.

The problem is that Korea is in no position to follow suit. A benchmark rate hike in Korea is sure to adversely affect its real estate market and indebted households, which, in turn, will lead to a drop in consumption and an economic downturn. Still, the Korean government is walking on eggshells with general elections scheduled for next year. Financial assistance for insolvent enterprises is still going on and corporate restructuring programs targeting zombie firms have been moderated as is the case with measures against household debts.

Now is the time for the government to come up with proactive measures against the capital outflow and market uncertainties that will follow the interest rate adjustment. In addition, the Korean economy should keep shoring itself up in order to better cope with the continuation of the interest rate adjustment. If history is any lesson, the Korean government ended up in an IMF bailout 18 years ago after confident remarks that Korea had robust economic fundamentals. Any serious impact from outside shakes inevitably the weakest loop of the national economy. The government should be determined first in dealing with household and corporate debts so as to forestall another crisis.