Korea is reportedly seeking to ramp up its currency swap line with China from the present $26 billion to the level of the recently expanded Korea-Japan foreign exchange swap deal. In their summit on Oct. 19, President Lee Myung-bak and Japanese Prime Minister Yoshihiko Noda agreed to boost their swap facility to $70 billion from the previous $13 billion.
If the Korea-China swap line is expanded, which is highly likely, Korea will secure extra foreign exchange liquidity, which will help it strengthen the regional as well as its own financial safety nets in the face of mounting global market uncertainty.
With its latest agreement with Japan, Korea has boosted its foreign exchange reserves to around $400 billion, about the size of its total outstanding foreign debt, which stood at $398 billion as of June. This means Korea has secured enough foreign exchange reserves to repay all its external debts even when they are called in at once.
The increased size of the Korea-Japan swap line has thus considerably eased worries about Korea’s foreign exchange liquidity. If the Korea-China swap facility is beefed up as requested by Korea, it will further defuse concerns about Korea’s dollar funding problems.
This is expected to help lower the borrowing costs of domestic banks and corporations, thus improving their global competitiveness. Furthermore, it will also help Korea prevent a downgrade of its sovereign rating.
Thus, an expanded Korea-China swap deal would go a long way toward helping Korea stabilize foreign exchange markets, cope with global market uncertainty and protect itself should another financial tsunami sweep the world.
Yet Korea’s efforts to augment its swap lines with Japan and China are not intended solely to pump up its own war chest in preparation for a global crisis. Its deals with the two neighbors strengthen the region’s financial safety net, which would in turn bolster the currency arrangements among the Northeast Asian trio and the 10 ASEAN members.
Since the global economic crisis in 2008, Korea has consistently called for a stronger global financial safety net. Under Korea’s initiative, the International Monetary Fund has introduced new lending facilities such as the Flexible Credit Line and Precautionary Credit Line to strengthen the global safety net.
Yet these new IMF facilities have not made the global safety net anywhere near strong enough to protect countries around the world from global turbulence. Hence Korea has been calling for central banks around the world to build regional and global networks of currency swaps.
To fight off the global financial meltdown in 2008, many countries entered into currency swaps. Yet they wound down the deals as financial markets began to restore order. Now the worsening eurozone debt crisis has increased the need for swap arrangements again. So Korea proposed a global currency swap scheme at the G20 summit in Seoul last year.
Advanced countries have thus far been lukewarm toward Korea’s initiative on the grounds that it could encourage moral hazard among developing countries. Yet such an attitude is expected to change as the eurozone debacle pushes the global economy toward another crisis. We hope November’s G20 summit in France discusses Korea’s idea more seriously.