Tighter monetary conditions, strong Won, to see BOK keep rates on hold in H1

January 16, 2018

SEOUL - The Korean Won was the best performing currency in Asia in 2017 – rising by 13% versus the US dolla.r Rapid export growth, a weaker USD, and fear of being labelled a currency manipulator by US President Trump were key reasons that the Bank of Korea (BOK) stayed on the sideline and allowed the Won to outperform in 2017, says the French bank, Natixis, adding that it does not expect such strength is to last, for two reasons:

A strong real effective exchange rate (REER) filters through to tighten monetary conditions via the external sector; This in turn dampens earnings of Korean exporters via weaker price competitiveness; The 5% appreciation versus the CNY in 2017 is eroding Korea’s competitiveness with its largest trade partner, which is also increasingly an export competitor.
The cyclical upturn of the tech cycle likely peaked in 2017, which means that export growth rates will likely moderate in 2018, requiring the BOK to be more supportive of exporters.

“We do not expect the BOK to hike rates in H1 2018 as it tries to keep monetary conditions accommodative for growth,” Natixis says.

“A 25bps hike in November 2017 and a rapid appreciation of the REER have pushed monetary conditions closer to neutral from being the loosest in Asia. And with headline inflation still at the lower band of the inflation target, the BOK has space to stay on hold until H2 2018 when CPI spikes towards the upper end of the band.

“As such, we expect the KRW to weaken in H1 2018 to 1090 but recover to 1070 by end 2018 when the BOK raises rates by another 25bps. www.natixis.com (ATI).