[Seungseop Song's Financial Light] Why Does the 'King Dollar' Phenomenon Occur?

Won-Dollar Exchange Rate Approaching 1,400 Won
US Fed's Sharp Interest Rate Hikes as Background
High Inflation Caused by 'King Dollar'... Bank of Korea Faces Big Dilemma

Finance is difficult. It is entangled with confusing terms and complex backstories. Sometimes, you need to learn dozens of concepts just to understand a single word. Yet, finance is important. To understand the philosophy of fund management and consistently follow the flow of money, a foundation of financial knowledge is essential. Accordingly, Asia Economy selects one financial issue each week and explains it in very simple terms. Even if you know nothing about finance, you can immediately understand these ‘light’ stories that turn on the bright ‘light’ of finance for you.

On the 16th, when the won-dollar exchange rate started to rise, dealers were working in the dealing room of Hana Bank in Euljiro, Seoul. Photo by Mun Ho-nam munonam@

[Asia Economy Reporter Song Seungseop] The won-dollar exchange rate is soaring. It has surpassed 1300 won and the 1400 won mark is also within sight. The exchange rate has only exceeded 1300 won during serious crisis situations such as the dot-com bubble collapse, the 9/11 terrorist attacks, and the Lehman Brothers bankruptcy. Because the dollar has become excessively expensive, the term 'King Dollar' has even emerged in the market. Why is the King Dollar phenomenon happening?

The exchange rate is the ratio at which the currency of the country you live in is exchanged for the currency of another country. The won-dollar exchange rate indicates how much Korean money you need to pay to exchange for 1 dollar. For example, if you exchanged 1000 won to buy a 1-dollar Starbucks coffee in the U.S., the won-dollar exchange rate would be 1000 won. (Reference article: [Song Seungseop’s Financial Light] Why the crisis-level exchange rate is scary)

Currently, the won-to-dollar exchange rate recorded 1399.0 won as of the 16th. This is the highest level in 13 years and 5 months since March 31, 2009 (1422.0 won). Even in January, the average exchange rate was about 1195.3 won. This means that the amount of Korean money needed to exchange for 1 dollar has increased that much. The same applies to other countries. The Japanese yen against the dollar recently surpassed the 140 yen level, the highest exchange rate in 24 years. The British pound against the dollar also reached its highest level in about 30 years.

So why does the exchange rate keep changing? Exchange rates move according to the law of supply and demand. The rarer and more limited edition sneakers are, and the more people want to buy them, the more expensive they become. You have to pay more money. The same applies to the dollar. The harder it is to obtain dollars (decreased supply) and the more people want dollars (increased demand), the more expensive the dollar becomes. You have to pay more Korean won to exchange for 1 dollar. This phenomenon is called ‘dollar strength,’ and recently the market has also given it the nickname King Dollar.

Jerome Powell, Chairman of the U.S. Federal Reserve (Fed), is speaking at a press conference held in Washington DC on July 27 (local time). He hinted at the possibility of a "Giant Step" (a 0.75 percentage point interest rate hike at once) in September. [Image source=Yonhap News]

The current King Dollar phenomenon is related to the U.S. Federal Reserve’s (Fed) interest rate hikes. The Fed is sharply raising the benchmark interest rate to curb high inflation. When the benchmark interest rate rises, the interest rates on deposits and loans at U.S. banks also increase. People holding dollars would prefer to deposit their money in banks rather than invest or borrow. This reduces the amount of dollars circulating in the market. When dollar supply decreases, the value of the dollar naturally becomes more expensive.

Also, the U.S. benchmark interest rate is approaching 3.00?3.25% due to sharp hikes, which is higher than Korea’s 2.50%. This means you can earn more interest by putting money in the U.S. Investors who had deposited money in Korea would want to convert won to dollars and deposit funds in the U.S. Investors who had placed money in other developing countries would think the same. As dollar demand increases, the exchange rate rises.

The High Inflation Era Created by the King Dollar Phenomenon

What impact does the King Dollar have on our lives? First, import prices become more expensive. Suppose the won-dollar exchange rate rises from 1000 won to 2000 won. When importing a 1-dollar pair of American sneakers, you only had to pay 1000 won before, but with the exchange rate increase, you have to pay 2000 won for the same product. Companies importing raw materials from abroad will be hit hard. Economic agents who borrowed money in dollars from overseas will also struggle. Even if their debt does not increase, they need to prepare more won.

An employee is spreading out dollar bills at the Hana Bank Counterfeit Response Center in Jung-gu, Seoul.
[Photo by Yonhap News]

On the other hand, some benefit from the high exchange rate. Financial consumers who have deposited money in foreign currency accounts would have gained more. Export companies also benefit. A Korean company that sold a 1-dollar product to the U.S. earned 1000 won before, but if the exchange rate rises, the same product sale brings in 2000 won. However, since other countries have also experienced similar rises in their dollar exchange rates like Korea, it is difficult to feel a significant boost in export competitiveness.

Currently, concerns about the negative effects of the high exchange rate outweigh the positive effects. Domestic prices remain high, and soaring exchange rates could worsen inflation. Inside the Bank of Korea, which manages prices, voices are emerging that express concern about increased volatility in financial and foreign exchange markets due to the U.S. interest rate hikes.

Accordingly, foreign exchange authorities have begun close monitoring and intervention. It is known that last week, the foreign exchange authorities requested banks trading dollars to report their dollar buying and selling status three times a day. Also, along with a message stating, “We are closely monitoring with caution the possibility of market concentration during the process of increased won volatility due to recent external factors,” it is reported that they intervened by selling about 1 billion dollars.