The Global Currency War Triggered by COVID-19 Begins

Countries Successively Announce Liquidity Supply Measures
Possibility of US Zero Interest Rate and China Reserve Requirement Ratio Cut

Bank of Korea Also Expected to Cut Interest Rates
Concerns Over Emerging Markets Hit in Currency War

[Asia Economy Reporters Kim Eun-byeol and Jung Hyun-jin] There are growing concerns that the novel coronavirus infection (COVID-19) could trigger a global currency war. As countries continue to roll out economic measures in response to COVID-19 and supply liquidity, these measures appear to be sparking a competition of currency depreciation. This situation resembles the pattern seen during the 2008 financial crisis. Although South Korea's exchange rate fluctuations are not as pronounced compared to major countries, there are worries that if a currency war breaks out, international capital could rapidly flow in and out, destabilizing the market. The Bank of Korea's interest rate cut next month is now considered a foregone conclusion.

On the 12th, key foreign exchange market officials diagnosed that "regardless of the United States' intentions, a currency war-like situation is currently unfolding." In fact, the U.S. implemented an emergency 50 basis point (1bp=0.01 percentage point) rate cut on the 3rd (local time), after which a weak dollar trend has continued. Since the end of February, the U.S. dollar has steadily weakened. The dollar index, which was threatening the 100 mark at 99.86 on the 20th of last month, recently dropped to around 96. On the 9th, it fell further to 94.895.

Conversely, the currencies of major countries have relatively appreciated. The dollar-yen exchange rate, which was 112.10 on the 20th of last month when the U.S. weak dollar trend began, dropped to 104.54 the day before. This represents an approximate 6.74% appreciation of the yen. The Swiss franc appreciated by 4.63%, and the offshore Chinese yuan also rose by 1.10%. The won-dollar exchange rate increased after COVID-19 spread in January but fell by nearly 15 won (won appreciation) from the 1200 won level to around 1185 won following the U.S. rate cut.

◆ Competitive Monetary Easing Among Major Countries Amid Possibility of U.S. Zero Interest Rate = On the 11th (local time), the Bank of England (BoE) surprised markets by cutting its benchmark interest rate by 0.50 percentage points. The countercyclical capital buffer, which is held by central banks as a reserve, was also lowered from 1% to 0%. The significant rate cut by the UK appears to be aimed at aligning with the U.S. and Canada. Earlier, the Bank of Canada (BOC) followed the Fed’s rate cut the next day by lowering its benchmark rate by 0.5 percentage points to 1.25%.

The European Central Bank (ECB), which held a monetary policy meeting on the 12th, is also expected to slightly lower its current deposit rate of -0.5% and announce measures to support small and medium-sized enterprises. The Fed expanded its repurchase agreement (RP) transaction limit from $100 billion to $150 billion, and then from $150 billion to $175 billion. The New York Federal Reserve explained that this was a measure to ensure banks maintain sufficient reserves and to ease pressure on financial markets. However, this also fueled the competition for liquidity easing.

At first glance, it appears that the world is coordinating through interest rate cuts. The problem is that the U.S. has much more room to cut rates down to zero compared to other countries. The ECB and the Bank of Japan (BOJ) already have benchmark rates at 0% and negative (-0.10%), respectively. Ultimately, with major central banks’ rates at the floor, they are forced to seek other means to maintain the effectiveness of monetary policy. The BOJ’s purchase of exchange-traded funds (ETFs) is a representative example. Since the recession has already progressed, advanced countries also find it difficult to aggressively conduct asset purchases.

◆ China May Join... Emerging Markets Like South Korea Could Be Hit = The trade war with China, which had quieted due to COVID-19, could resurface. The People’s Bank of China is likely to implement liquidity supply measures as early as this week. The expected cut in the reserve requirement ratio for banks is between 50 and 100 basis points. This would inject between 300 billion and 700 billion yuan of liquidity into the market.

If a currency war scenario unfolds, South Korea and other emerging markets are expected to be affected. Theoretically, a stronger won would be disadvantageous for exports. Additionally, increased exchange rate volatility and market instability are concerns. Professor Kim So-young of Seoul National University’s Department of Economics stated, "If liquidity increases and the speed of capital inflows and outflows accelerates due to a currency war, South Korea’s financial market, which heavily depends on foreign investors, could be hit."

For this reason, there are calls for South Korea to establish a global cooperation framework in advance through currency swap agreements with the U.S. and others before a crisis hits. The sequence could be: competitive currency depreciation → instability in emerging market financial markets → renewed instability in advanced countries. The Wall Street Journal (WSJ), in an editorial titled "Fed’s Market Stabilization Measures" on the 10th, stated that the Fed needs to establish currency swap agreements with South Korea, China, Taiwan, Hong Kong, and Australia. Currency swaps are agreements that allow countries to deposit their own currency with each other and receive the other’s currency or dollars in times of emergency such as foreign exchange crises.

This content was produced with the assistance of AI translation services.