Effects of U.S.-Korea Currency Swap Likely to Be Short-lived

South Korea and the United States signed a currency swap contract, worth US$60 billion, in 10 years. The contract is expected to contribute to the stability of the South Korean foreign exchange market. Still, it is also pointed out that the effect of the contract would be short-lived in that the ongoing economic impact of COVID-19 is a real economic impact.

The Korea Composite Stock Price Index (KOSPI) jumped 7.44 percent to close at 1,566.15 points on March 20, showing the steepest increase since Dec. 8, 2008. In addition, the KOSDAQ index spiked 9.2 percent to close at 467.75 points.

The rapid recovery of the stock markets was based on the currency swap contract signed the previous day. During the global financial crisis in 2008, the first currency swap contract between the United States and South Korea led to an 11.95 percent spike in the KOSPI market, raising it back to over 1,000 points. On March 20 this year, the won-dollar exchange rate dropped 39.2 won to 1,246.5 won per U.S. dollar.

According to market experts, however, the effect of the latest currency swap contract is likely to fall short of that signed 12 years ago. This is because the ongoing instability is attributable to real economic contraction rather than financial system-related problems. In 2008, the won-dollar exchange rate dropped from 1,427 won to 1,250 won in one day immediately after the conclusion of the contract. Then, however, the rate continued to increase to an all-time high with instability lingering.

In this regard, Bank of Korea Governor Lee Ju-yeol remarked that the main purpose of the latest contract is to address the shortage of the U.S. dollar in the South Korean foreign exchange market and the contract does not directly counteract a financial crisis attributable to real economic contraction. On March 20, foreign investors in the KOSPI 200 futures market sold futures worth one trillion won for the last 25 minutes after a net purchase. In the KOSPI market, they sold shares worth 584.6 billion won, continuing to sell for 12 trading days.