Korea: Credit Crisis Sinks In; Won Plunges

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Korea's growing labor costs are also causing capital outflows as companies build factories overseas. While foreign direct investment (FDI) in Korea dropped to $1.6 billion last year from $3.6 billion in 2006, Koreans' direct investment overseas surged to $15.3 billion in 2007 from $8.1 billion in 2006, Bank of Korea figures show. In the first eight months of this year, Koreans invested $9.7 billion overseas, while FDI inflow in the country totaled only $30 million.

The capital outflow in the financial sector has had a great impact on dollar shortages. Hyundai Research Institute, a private think tank, figures foreign share investors pulled out $14.3 billion from Korea in the first eight months of this year after investing $30 billion in 2007. In contrast, Korean share investors brought home $900 million after selling shares overseas, although they made additional investments totaling $54.6 billion in overseas stock markets last year.

Forced to Hedge

Fund managers point out that U.S. and European financial investors regard non-Japan Asia as high-risk markets that get sold off during a liquidity crunch, and that Korea, with a large and liquid stock market, becomes the easiest place to pull money from. A survey by a government think tank shows foreign share investors yanked $14.7 billion from Korea in the past four months, larger than any other country in Asia. "Given the trade deficit, the FDI imbalance and the global financial instability, the won will stay weak for the time being, although the recent plunge is way overdone," says senior economist Baek Heung Gi at Hyundai Research.

Expediting the won's plunge has been the settlement of short-selling of the dollar by Korean companies and fund managers. The Koreans have resorted to such hedging because the won had steadily risen until last year, but as the currency began weakening this year they had to start buying the greenback to cover their positions. Hyundai Research estimates Korean fund managers need to buy up to $800 million every time the value of their share investments overseas falls by 1%.

Still, not everybody is suffering from the won's plunge. Korea's large exporters such as Samsung Electronics and Hyundai Motor are poised to benefit as a weaker local currency makes their exports more competitive (BusinessWeek.com, 3/28/08). "They will do better than their rivals," says Huh Chan Guk, chief economist at Korea Economic Research Institute, a think tank for Korea's large conglomerates, "but if a global recession starts to dampen consumer sentiment, everybody will end up being a loser."

Moon is BusinessWeek's Seoul bureau chief.
With Ian Rowley in Tokyo