SEOUL: South Korea announced on Sunday, June 13 long-anticipated curbs on banks' currency trades, saying it aimed to rein in short-term foreign debt and volatile capital flows that posed a risk to the world's ninth-biggest exporter.
The authorities, alarmed by the won's sharp swings during recent market turbulence caused by Europe's debt problems, have been priming investors for weeks for action aimed at stabilising its currency and cooling overseas borrowing.
The well-flagged new restrictions slap limits on banks' and other financial institutions' currency forwards, cross-currency swaps as well as non-deliverable currency forwards.
"These measures are aimed at reducing the volatility in capital flows that poses a systemic risk in the country instead of driving the exchange rate into a specific direction," South Korea's finance ministry, two financial regulators and the central bank said in a joint statement.
"The country needs to prepare 'a minimum set of safety tools' that fully reflect the special features... such as the country's high volatility in capital flows," the statement said, adding that the new steps reflected a global trend towards tighter regulation of banks' activity.
The curbs, expected to take force in October, will apply to both domestic and foreign banks, but official data showed foreign bank branches are the ones that will be immediately affected.
The new rules will cap domestic banks' and non-bank financial institutions' currency forwards and derivatives at 50% of their equity capital. The cap for foreign bank branches was set at 250% of equity to account for their lower capital, which on average is just 1/30 of that held by domestic banks.
However, foreign banks' currency derivatives positions amounted to just over 300% of capital, while domestic banks' exposure totalled 15.6% of equity capital, government data showed.
Banks will have up to two years to comply fully with the new limits, the authorities said, addressing market concerns that the new rules could lead to more, not less, market volatility if banks and investors were given little time to adjust.
In another effort to calm markets, the authorities said they were ready to help if the new controls led to increased short-term market volatility.
The won weakened in the past week in anticipation of the curbs, but closed 0.4% higher on Friday in a sign that investors have largely factored in the new rules.
The authorities said South Korea's economy was more vulnerable to market gyrations than most of its peers because of its high short-term foreign debt.
The debt is equivalent to 60% of foreign reserves ' nearly twice the ratio in Indonesia or Malaysia ' and largely reflects an imbalance in the forward market caused by heavy dollar selling by shipbuilders and other big exporters.
This depresses the cost of dollars, making borrowing the US currency and swapping into won particularly attractive.
In addition, banks need to offset long dollar positions in their deals with exporters with dollar borrowing, which also drives up short-term debt volumes, leaving South Korea exposed to a sudden dollar squeeze, similar to that which followed the collapse of Lehman Brothers in September 2008.
In addition to limits on currency trades for banks, the authorities tightened the curbs on companies' currency derivatives trades announced in November, lowering the ceiling to 100% of the value of their physical foreign trade transactions from the initial 125%.
The central bank will also take steps next month to limit foreign-currency lending by banks to local companies by allowing such lending only to finance documented deals with foreign entities. ' Reuters
The authorities, alarmed by the won's sharp swings during recent market turbulence caused by Europe's debt problems, have been priming investors for weeks for action aimed at stabilising its currency and cooling overseas borrowing.
The well-flagged new restrictions slap limits on banks' and other financial institutions' currency forwards, cross-currency swaps as well as non-deliverable currency forwards.
"These measures are aimed at reducing the volatility in capital flows that poses a systemic risk in the country instead of driving the exchange rate into a specific direction," South Korea's finance ministry, two financial regulators and the central bank said in a joint statement.
"The country needs to prepare 'a minimum set of safety tools' that fully reflect the special features... such as the country's high volatility in capital flows," the statement said, adding that the new steps reflected a global trend towards tighter regulation of banks' activity.
The curbs, expected to take force in October, will apply to both domestic and foreign banks, but official data showed foreign bank branches are the ones that will be immediately affected.
The new rules will cap domestic banks' and non-bank financial institutions' currency forwards and derivatives at 50% of their equity capital. The cap for foreign bank branches was set at 250% of equity to account for their lower capital, which on average is just 1/30 of that held by domestic banks.
However, foreign banks' currency derivatives positions amounted to just over 300% of capital, while domestic banks' exposure totalled 15.6% of equity capital, government data showed.
Banks will have up to two years to comply fully with the new limits, the authorities said, addressing market concerns that the new rules could lead to more, not less, market volatility if banks and investors were given little time to adjust.
In another effort to calm markets, the authorities said they were ready to help if the new controls led to increased short-term market volatility.
The won weakened in the past week in anticipation of the curbs, but closed 0.4% higher on Friday in a sign that investors have largely factored in the new rules.
The authorities said South Korea's economy was more vulnerable to market gyrations than most of its peers because of its high short-term foreign debt.
The debt is equivalent to 60% of foreign reserves ' nearly twice the ratio in Indonesia or Malaysia ' and largely reflects an imbalance in the forward market caused by heavy dollar selling by shipbuilders and other big exporters.
This depresses the cost of dollars, making borrowing the US currency and swapping into won particularly attractive.
In addition, banks need to offset long dollar positions in their deals with exporters with dollar borrowing, which also drives up short-term debt volumes, leaving South Korea exposed to a sudden dollar squeeze, similar to that which followed the collapse of Lehman Brothers in September 2008.
In addition to limits on currency trades for banks, the authorities tightened the curbs on companies' currency derivatives trades announced in November, lowering the ceiling to 100% of the value of their physical foreign trade transactions from the initial 125%.
The central bank will also take steps next month to limit foreign-currency lending by banks to local companies by allowing such lending only to finance documented deals with foreign entities. ' Reuters
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