[Geuman Report] "Concerns Over Further Won Weakness If US Rate Cut Expectations Are Delayed"

The Bank of Korea's 'Comparison of Domestic and External Conditions During Exchange Rate Rise'
Weakened Expectations for US Interest Rate Cuts and Middle East Conflicts May Lead to Further Won Depreciation

At a currency exchange office in Myeongdong, Seoul, the won-dollar exchange rate is trading at around 1,391.0 won. Photo by Jo Yongjun jun21@

There is a possibility that the Korean won could weaken further if expectations for a U.S. interest rate cut are delayed or if conflicts in the Middle East escalate again.

According to the "2024 First Half Financial Stability Report" released by the Bank of Korea on the 26th, a comparison of the factors behind the exchange rate increases in the first half of this year and the second half of 2022 revealed a common factor: the strong U.S. dollar played a significant role.

In both periods, the U.S. dollar strengthened against major currencies due to differentiated monetary policies between the U.S. and other advanced economies, resulting in a weaker Korean won.

Another similarity between then and now is that both the Japanese yen and the Korean won showed simultaneous weakness. In recent years, the co-movement among the won, yen, and yuan has been prominent, with the yen and won showing particularly notable weakness this year.

On the other hand, in 2022, multiple factors contributed to the won's weakness, including geopolitical risks from the Russia-Ukraine war, a domestic current account deficit, and instability in the domestic bond market. However, unlike then, the won-dollar exchange rate is rising now despite these risks being relatively low.

The Bank of Korea analyzed that despite recent improvements in domestic and external conditions, the increase in the won-dollar exchange rate has exceeded the rise in the U.S. dollar index.

This is attributed to ongoing uncertainties in the Chinese economy, geopolitical risks and concerns over rising energy prices due to Middle East conflicts, and delays in Japan's monetary policy normalization.

The Bank of Korea expects the won-dollar exchange rate to stabilize and decline by the end of the year. However, it added that it cannot completely rule out the possibility that factors weakening the won could strengthen again if expectations for a U.S. rate cut continue to be delayed, conflicts in the Middle East reignite causing investment sentiment to deteriorate, and the yen and yuan weaken further.