South Korea will remove restrictions on banks’ purchase of foreign currency bonds issued at home, called “kimchi bonds, as part of policy efforts to attract foreign capital to offset growing outflows driven by individual investors’ flight to overseas stocks.
The Ministry of Economy and Finance on Sunday also announced an increase in the cap on financial institutions’ foreign exchange derivatives trade such as forwards with domestic companies to 125% from the current 100%.
These moves are the latest in a series of deregulaitons the government has unveiled since late last year to prop up the Korean currency as the country’s foreign exchange reserves diminished to the lowest level in nearly five years in February.
Those new measures will come into force within the first half of this year, the ministry said in a statement jointly released by the Financial Services Commission, the Financial Supervisory Service (FSS) and the Bank of Korea.
They also eased restrictions on domestic banks’ foreign currency lending to Korean companies. Starting on Monday, they will be allowed to lend dollars through overseas offices for conversion into the Korean won, enabling domestic companies to use them for capital expenditures.
KIMCHI BONDS
Seoul has prohited finanial institutions from buying kimchi bonds since late 2011 as a majority of their issuers converted them into the Korean won for domestic use. This was blamed for increasing corporate debts beyond limits and strengthening the won.
The government now expects kimchi bonds to boost dollar selling, counterbalancing the demand for the greenback from individual stock investors.
However, analysts are skeptical about its impact. They pointed out that higher funding costs in the dollar, compared to those in the Korean won, will reduce the appeal of kimchi bonds.
A finance ministry official said that kimchi bond sellers can sharply reduce dollar funding costs through currency rate swaps. Alternatively, they may sell bonds in the Japanese yen at home to secure the won with lower costs.
FOREX HEDGING LIMITS
Under the new rules, financial institutions will be permitted to hedge up to 125% of their corporate clients’ foreign currency exposure.
Since 2010, their derivatives transactions for corporate clients’ currency hedging have been capped at 100%. That means their currency hedges for clients through derivatives trade cannot exceed the latters’ forex exposure, or exports.
In December, the government eased the restrictions on banks’ exposure to forward positions and expanded the ceiling of foreign currency loans to be used for conversion to the Korean won.
It also increased the foreign exchange swap line between the National Pension Service (NPS) and the Bank of Korea to reduce the pension scheme’s dollar buying on the domestic spot market.
However, they have not reversed the won’s weakness.
“Foreign currency outflows have continued to exceed inflows since the start of this year amid external uncertainties such as US tariff policies,” the ministry said in the joint statement.
Foreign investors transferred $1.61 billion abroad from the proceeds earned through domestic stock investments in January, according to the FSS.
In comparison, individual investors poured $10.81 billion into overseas stock markets in the period of January and February, according to the Korea Securities Depository.
By Ik-Hwan Kim
lovepen@hankyung.com
Yeonhee Kim edited this article.
