[The Editors' Verdict] With the Exchange Rate Near 1,400 Won, This Is No Time to Debate Fundamentals

Decline in Won Value, Difficult to Gauge Bottom
Adjustment by Supply and Demand Is Ideal
Authorities to Balance Foreign Exchange Market

The idea that exchange rates are determined solely by the supply and demand in the foreign exchange market is an extremely idealistic notion. It is a well-known fact that, apart from the autonomously operating foreign exchange market, most countries maintain exchange rates at appropriate levels through smoothing operations (policy-driven foreign exchange transactions). The logic that the economy harmoniously develops through the invisible hand, the automatic price adjustment function, as argued by Adam Smith, the father of modern economics, in The Wealth of Nations, is idealistic and more of a fundamental approach found in economics textbooks.

Exchange rates are an important tool in each country's economic strategy. This is especially true nowadays when the US dollar shows such overwhelming strength in the global financial market that it is called the king dollar. Just six months ago, the won-dollar exchange rate was in the 1210 won range, but it surpassed 1300 won at the beginning of last month and is now poised to break through 1400 won within about a month. An exchange rate in the 1400 won range is sheer terror for the Korean economy. This is due to the nightmares of the 1997 foreign exchange crisis and the 2008 global financial crisis that we shudder at. Of course, unlike then, current external soundness indicators remain at stable levels.

However, now is not the time to debate whether external soundness indicators are good or bad. The imminent risk is that it is difficult to gauge the bottom of the won's value. If this trend continues, the policy rate hikes initiated to curb high inflation may have to be implemented more harshly due to the exchange rate, leading to a counterproductive outcome.

The foreign exchange authorities bear significant responsibility for the current situation. On the 5th, Choo Kyung-ho, Deputy Prime Minister and Minister of Economy and Finance, stated at an emergency macroeconomic and financial meeting convened to review the economic and financial situation following the sharp rise in the exchange rate, "External soundness indicators are maintaining stable levels without significant changes." This statement was consistent with previous remarks that, despite accumulating trade deficits, the current account surplus meant there was no major cause for concern. However, three days later, it was revealed that the goods balance, which had steadfastly held despite the trade deficit, had turned into a deficit. Additionally, the Bank of Korea added that the current account might also turn into a deficit in August. The won-dollar exchange rate fluctuated significantly in response to these economic indicators changing within just three days, eventually breaking through 1380 won that day.

What about Lee Chang-yong, Governor of the Bank of Korea? On the same day (the 5th), when asked why the won's depreciation was greater compared to other currencies, he replied, "Previously, our (won) depreciation was less. The answer depends on the period you look at." This was interpreted as a subtle expression that Korea's financial and foreign exchange situation was not serious. It also reflected his conviction not to give unnecessary misunderstandings of exchange rate manipulation by leaving it to the market. However, this was different from the strength of remarks the foreign exchange market expected that day. The market was circulating talk that the volatility of the won-dollar exchange rate was large due to speculative trading by overseas hedge funds seeking recent exchange gains, so the governor was expected to issue a stronger warning than ever. After his remarks, the won-dollar exchange rate rose nearly 10 won in just one day. It was almost embarrassing that the heads of the foreign exchange authorities held an emergency meeting from early morning.

Daron Acemoglu, an economics professor at the Massachusetts Institute of Technology and author of Why Nations Fail, a book President Yoon Suk-yeol recommended as deeply impressive, said that a Leviathan (absolute power) shackled by a perfect balance between the power of the state and the power of society is the path that leads the state and its people to prosperity. Now is the time to restore balance to the foreign exchange market, which is increasingly skewed toward the market.

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