Money, Stop... No Sharp Solution for Donmakgyeonghwa (Comprehensive)

Money Velocity Drops Again at End of June... Record Low
Bank of Korea Pumps Money but Circulation in Market Stagnant
Global Phenomenon... US Money Velocity Plummets 20% in Q2

BOK "Side Effects Expected... Monitoring to Ensure Trend Line Not Breached"
Calls for Post-Management Supervision of Credit Supply

[Asia Economy Reporter Kim Eunbyeol] Increasingly, money is not circulating in the market. To overcome the economic crisis caused by the novel coronavirus infection (COVID-19), the Bank of Korea is injecting an unprecedented amount of money, but households and companies are focusing on accumulating assets in preparation for potential risks. Money, unable to find suitable investment destinations at the lowest interest rates, is concentrating only in stocks and real estate.

Velocity of Money Hits Another All-Time Low... US Also Drops by 20%

According to the Bank of Korea on the 2nd, as of the end of June, the velocity of money fell to 0.62. The velocity of money is an indicator showing how many times money is used in transactions over a certain period. It is calculated by dividing nominal Gross Domestic Product (GDP) by the money supply in circulation (M2 - broad money). A decline in this velocity means that money is not flowing properly to where it is needed in the market.

The velocity of money was close to 1 in 2002. However, during the financial crisis, the 0.90 level was broken, and by 2012, the 0.80 level also collapsed, entering the 0.60 range last year. The money multiplier, calculated by dividing M2 by the monetary base, also hit a new all-time low of 14.85 as of the end of June. The money multiplier indicates how much money banks have created through the credit creation process, and it also reflects the speed of money activity.

Although liquidity in the market surged due to the COVID-19 crisis, the phenomenon of money not circulating is occurring worldwide, including in Korea. According to the Federal Reserve Economic Data (FRED) of the Federal Reserve Bank of St. Louis, the velocity of money in the US plummeted from 1.381 in the first quarter to a record low of 1.102 in the second quarter. While the average decline in velocity from 2000 to 2020 over ten years was 1.2%, the recent velocity dropped by 20% in just one quarter.

The velocity of money circulation in the United States, which plummeted by 20% in just the first quarter (Source: St. Louis Federal Reserve Economic Data (FRED))

Money Hoarded Due to Anxiety... Concentrated Only in Stocks and Real Estate

The main reasons for the 'money stagnation' phenomenon, where money no longer circulates in the market, can be summarized into two. The biggest cause is the anxiety over not knowing when the spread of COVID-19 will end. With the prolonged COVID-19 situation, the economic recession has already begun, so households and companies are hoarding money instead of spending it.

Another reason is that interest rates have dropped to zero, leaving no suitable investment destinations. Even in difficult circumstances, people naturally seek returns, and the dominant perception is that there are no better investment options than stocks or real estate. Since stocks and real estate are also financial transactions rather than real transactions, money inevitably remains tied up in financial accounts.

According to the Bank of Korea, the growth rate of narrow money (M1), which refers to cash that can be used immediately, surpassed 20% for the first time in June, recording 21.3%. M1 is the sum of cash held by the private sector, demand deposits, and checking accounts at deposit banks, representing assets that can be immediately converted into cash. The growth rate of broad money (M2) also rapidly increased to 9.9% as of June. M2 includes M1 plus savings deposits at deposit banks and residents' foreign currency deposits. The Bank of Korea is paying attention to the fact that the growth rate of M1 is steeper than that of M2. This can be interpreted as companies and households taking out loans but not spending them, instead holding the money in their accounts. A senior Bank of Korea official said, "The phenomenon of money not circulating in the market is a somewhat natural result of lowering interest rates during the COVID-19 crisis. We acknowledge these side effects to some extent but are closely monitoring whether the trend deviates significantly."

Economic experts agree that since the base interest rate has already been lowered close to the effective lower bound, the side effects were predictable. Professor Andonghyun of Seoul National University's Department of Economics explained, "If past monetary policy was like targeted shooting aimed only at necessary places, recent quantitative easing (QE) is like firing a machine gun and hoping some bullets hit the target, but the money missing the target is concentrating in stocks or real estate." He added, "Some explain the decline in velocity of money by the financial deepening phenomenon (where the economic system, once centered on cash, has shifted to credit), but considering the relative size of the financial industry compared to GDP, it is insufficient to explain the current velocity of money solely by financial deepening."

Hard to Artificially Guide Already Released Money... Must Endure with Fiscal Policy

The problem is that it is very difficult to direct money that has already been released to productive areas. Similar to Japan, there are concerns that the gap between the real economy and asset prices will widen further, and the 'liquidity trap,' where investment and growth rates do not recover, may worsen.

Therefore, there is a call for methods to manage and supervise whether loans through banks are directed to productive and appropriate places or truly needy areas. Professor Kim Kyungsoo, Emeritus Professor at Sungkyunkwan University, pointed out, "In unprecedented crisis situations like COVID-19, creative monetary policy and credit supply are necessary. After supplying credit, it is necessary to manage and supervise whether it is being used appropriately. Even in cases like financial intermediary support loans, supervision should not be left solely to banks but should be more thorough to enable targeted support."

However, Professor And said, "Although scholars suggest using macroprudential regulations through the Financial Supervisory Service, it is questionable whether the government or supervisory agencies can effectively block loans or provide loans only to 'necessary places.' There is also a method to induce investment by easing regulations on companies, but except for some large corporations with large cash holdings, many lack the capacity to invest, so even that is difficult. The re-escalation of social distancing measures due to the resurgence of COVID-19 also makes it difficult to stimulate consumption."

Professor And added, "It might have been better to set the effective lower bound on interest rates a bit higher, lower the base rate less, and once reaching a certain level, set targets comprehensively by monitoring the money supply. For now, since the government and the Bank of Korea have decided to accept the side effects, it seems there is no sharp solution other than enduring with fiscal policy for the time being."

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