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Matthews' Weekly Asia Update will not be published next Friday, following the Thanksgiving holiday. The Weekly will be published again on Friday, December 5, 2008.
China, Korea May Boost Currency Swap
Week Ended: November 21, 2008
China and South Korea joined Japan in a statement last week, agreeing to expand economic cooperation and boost bilateral currency swap agreements among the three countries. If realized, the swap is expected to help steady China's neighboring markets and protect regional economies from further shocks. Japan, China and South Korea also agreed to play “a pivotal role” in stabilizing Asia’s economy by funding the Asian Development Bank.
Last month, South Korea had turned for the first time to the U.S. Federal Reserve for help in resolving a dollar funding crisis. Meanwhile, East Asian nations pledged to create an $80 billion foreign exchange reserves pool to fight the global financial crisis, as an extension of the so-called Chiang Mai initiative. Asian countries have swap lines under that initiative, but they are tiny in relation to today's capital flows. Under the current structure, Tokyo can provide U.S. dollars worth up to $10 billion and Japanese yen worth up to US$3 billion to South Korea, while Beijing can offer up to $4 billion worth of China’s currency, the renminbi, to Seoul. It is hoped that the talks to extend and expand these swap lines could increase the size of these arrangements.
The premise of the initiative is that a country with a short-term liquidity shortage can borrow reserves from partners in the network to absorb any heavy selling pressure on its currency without having to resort to a damaging devaluation—as some countries did during the 1997 financial crisis. South Korea has seen its currency, the won, fall more than 50 percent against the U.S. dollar this year. For the most part, however, regional banking systems do not seem overly stretched. When we look at the ratio of loans to deposits in banking systems, a high ratio significantly over 100% might indicate that a financial system had over-reached—only Korea and Australia seem particularly vulnerable. Much of the region is significantly below these levels.
The extension of these swaps is not just about dealing with the current financial stress. Many Southeast Asian nations felt they were subject to harsh conditions by the International Monetary Fund during the 1997 financial crisis. This has prompted these recent swap agreements between those nations. The use of these swaps and the possible expansion and extension of the agreements partly reflects the strains on Asia’s financial systems, particularly Korea. However, there is also the sense that Asia may be becoming more pro-active and self-reliant as it sees a capital-strapped U.S. concentrating on rescuing its own financial system.
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The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation. Matthews does not accept any liability for losses either direct or consequential caused by the use of this information.
