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Workers in Hana Bank’s dealing room in downtown Seoul check screens on Oct. 4, when the KOSPI fell by over 2% and the won-dollar exchange rate hit 1,360 on jitters over US austerity measures. (Yonhap)

The South Korean economy has run into severe turbulence as the US Federal Reserve keeps up its high interest rates.

The exchange rate has exceeded 1,360 won to the US dollar, while the interest rate on treasury bonds has risen to over 4% per annum. These rises in the exchange rate and bond interest rate have the potential to put a further damper on the economy as they raise transaction costs for companies and individuals. They also lead to higher import prices and a larger interest burden for borrowers.

On Wednesday, the won-to-dollar exchange rate finished at 1,363.50 on the Seoul foreign exchange market, up by 14.20 from the previous trading day. It was the highest closing rate since Nov. 10 of last year, when the rate finished at 1,377.50.

On the bond market, trading finished with interest rates of 4.108% per annum for three-year treasury bonds and 4.351% for 10-year treasury bonds — respectively 0.224 and 0.321 percentage points higher than the previous trading day.

This marked the first time both the short- and long-term interest rates exceeded 4% since early November 2022, when the Legoland default crisis erupted.

Stock markets also fell sharply. The KOSPI dropped by 59.38 (2.41%) to finish at 2,405.69 points, while the KOSDAQ tumbled by 33.62 (4.00%) to finish at 807.40 points.

The financial market has been rocked by fears that the Fed could keep interest rates high longer than expected.

At meetings of the Federal Open Market Committee on Sept. 19 and 20, the Fed announced that the policy interest rate could be raised even higher for a long period of time. As a reason, it cited high prices amid a stronger-than-expected US economic recovery trend.

The Fed’s prediction has been bolstered by clear trends of improvement in various US economic indicators, including the manufacturing purchasing managers’ index in September and Job Openings and Labor Turnover Survey findings in August.

With signs pointing to continued high interest rates, US government bond interest rates have been skyrocketing, while the US dollar remains strong.

The interest rate for US 10-year treasury bonds — which serves as a benchmark for bond interest rates around the world — reached 4.810% per annum on Tuesday, its highest level in 16 years, since August 2007. The US dollar index, representing the value of the dollar relative to currencies in six major countries, reached the 107 mark.

Observers are predicting this domestic and external environment could cause major problems for the South Korean economy.

Despite the Bank of Korea freezing the benchmark interest rate since February, interest rates on the domestic market have remained volatile. The rates for South Korean treasury bonds appear to be rising in tandem with those for US bonds.

The corporate bonds issued by businesses to procure funds carry even higher interest burdens than treasury bonds. This means that companies face a bigger burden in future borrowing — which has prompted concerns that more and more of them could end up strapped for funds.

The interest rate for personal loans is also very likely to rise. Banks also issue bonds to raise funds, and the growing cost burden as interest rates rise is reflected in turn in the interest rates for loans.

Given that South Korea’s household debt stands at an all-time high, it’s a market environment that is very likely not only to discourage consumption but also to translate into household insolvency.

The declining value of the won has fueled a rise in domestic prices. Companies have to pay greater costs when conducting dollar-denominated transactions to import raw materials.

After reaching 6.3% in July 2022, the rate of increase in consumer prices dropped below 3% as of June this year. Two months later, it was back above 3% — signaling a situation where the rising won-to-dollar exchange rate has been a source of pressure driving prices back up.

For Korea’s central bank, this leads to more complex calculations. The financial market jitters and inflation are pressuring it to raise the benchmark interest rates higher — but it is also being held back by the fact that South Korea’s economic recovery has not been as strong as that of the US.

In a market situation review meeting held Wednesday, the Bank of Korea observed, “Amid the growing likelihood of the Fed maintaining high interest rates in the long term, global bond interest rates have been rising substantially, while international oil prices have remained at a high level, resulting in a large degree of uncertainty in external conditions.”

“We will need to remain particularly wary and take action with market stabilization measures as needed,” it said.

By Jun Seul-gi, staff reporter; Cho Hae-yeong, staff reporter

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