[The Editors' Verdict] No Need to Worry Excessively About the Rising Exchange Rate

[Asia Economy Jeong Jaehyung, Economic and Financial Editor] On the 30th, the won-dollar exchange rate surpassed 1,300 won intraday for the first time in four trading days, reaching 1,303.7 won and setting a new high. With the U.S. Federal Reserve (Fed) expected to raise the benchmark interest rate significantly again, the won-dollar exchange rate is likely to rise further.

There are many voices worried about the rising exchange rate. Under normal circumstances, an increase in the exchange rate enhances the price competitiveness of our companies' exports, which has a positive impact on our economy overall, given its high export dependency. However, recently, due to significant concerns about inflation, the rising exchange rate is seen as leading to higher import prices, which negatively affects the overall economy. Of course, consumer prices rising can cause hardship for many people.

Nevertheless, I want to argue that there is no need to worry excessively about the rising exchange rate. According to the report "Dollar Strength: Beneficiary and Affected Industries?" published by Korea Ratings at the end of April, the impact of the rising exchange rate was limited or positive in many industries. The only negatively affected sector was air transportation, which has significant foreign currency debt due to aircraft leasing and jet fuel purchases. This conclusion was drawn after analyzing factors such as industry-specific exchange rate exposure, pricing structures by sector, cross-currency exchange rates, and the scale of foreign currency assets/liabilities.

Industries with a high export ratio such as shipbuilding, semiconductors, displays, and automobiles benefit from the rising exchange rate in terms of profitability. For net import sectors like power generation and refining, costs increase but can be passed on to selling prices, so the impact on profitability is limited. Particularly, industries like gaming and biotechnology, where imported raw materials constitute little or no portion of production costs, are beneficiaries of the rising exchange rate. Gaming companies with a high export ratio to North America and biotech firms with technology export contracts see increased won-based earnings due to the exchange rate rise. Examples include game companies such as Netmarble, Wemade, Pearl Abyss, Smilegate, and biotech companies like Samsung Biologics and ABL Bio.

The trauma from the 1997 foreign exchange crisis and the 2008 global financial crisis often associates exchange rate increases with crises. This is because foreign currency liquidity crises and capital outflows led to exchange rate rises. There were also difficulties during the "Bernanke Shock" (emerging market foreign exchange crisis) in 2013 when the U.S. decided to reduce quantitative easing.

However, the situation has changed significantly now. As of the end of Q1 this year, South Korea's net external financial assets stand at $696 billion (approximately 900 trillion won). This figure is the difference between Korean investments in overseas financial assets and foreign investments in domestic financial assets. Until before 2014, South Korea's net external financial assets were negative. They turned positive around 2014-2015 and have since surged to about 900 trillion won by Q1 this year. This increase is due to a significant rise in Korean investors investing in overseas stocks (Seohak Gaemi) and financial companies continuously expanding overseas financial investments.

As net external financial assets increase, the amount earned from dividends and interest abroad has also risen considerably. From January to April this year, the investment income balance (dividends + interest income) was $1.71 billion, a 40% increase compared to the same period last year ($1.22 billion). In 2021, the annual investment income balance was $20 billion, up 41% from the previous year ($14.2 billion). This is about four times the $5.3 billion recorded in 2013.

Although South Korea's net external financial assets of $696 billion fall far short of Japan's $3.4 trillion (as of the end of 2020), South Korea can follow a similar structure to Japan's: "current account surplus → increase in net external assets → expansion of investment income balance." The Japanese yen is regarded as a safe asset during economic crises. While it may be difficult for us to reach that status, net external financial assets approaching $700 billion, combined with foreign exchange reserves of $447.7 billion, provide a solid pillar for external soundness.

There are concerns about the rapid pace of the U.S. Fed's benchmark interest rate hikes surpassing the Bank of Korea's rate, widening the domestic-foreign interest rate gap. However, exchange rates are influenced not only by interest rate differentials but also by international financial markets, domestic and foreign economic conditions, and external creditworthiness. The government and central bank have sufficient efforts and tools to stabilize the market.

Overall, South Korea's situation is not bad. The exchange rate may rise temporarily, but it does not seem to be changing trend-wise as it did during the crises of 1997 and 2008. It is time to be cautious about economic agents forming self-fulfilling expectations due to excessive anxiety about the rising exchange rate.