Price and Exchange Rate Volatility Emerge Amidst Kim Yong-bum's 'Friction Sound of Economic Leap' Remarks

Amidst growing economic challenges as the Korean won's value falls below 1,520 per dollar, Kim Yong-bum, Senior Secretary to the President for Economic Affairs, sparked divergent views by describing the situation as 'friction sound of economic leap.' Korea's 10-year government bond yield rose over 20% from 3.385% at the end of last year to 4.064% on the 22nd. This increase outpaced that of major economies like the U.S., U.K., Germany, and Japan, with exchange rate volatility identified as a key driver of Korea's rising yields.

Kim Yong-bum, Senior Secretary to the President for Economic Affairs, diagnosed that high interest rates, high inflation, and a high exchange rate are the inevitable costs of success accompanying Korea's economic leap to a new dimension, labeling them as 'friction sound of leap, not a prelude to crisis.'

The Korean economy holds competitiveness in AI investment, centered on semiconductors, and possesses companies with strong capabilities in energy infrastructure and defense industries. A majority of items the world needs are manufactured and exported by Korea. In this context, the Korean economy is analyzed to be in a position to benefit rather than suffer during this investment era.

Korea also requires fiscal expenditure for building AI-era infrastructure, technological development, and addressing low birth rates and aging populations. Korea's government debt-to-GDP ratio stands at 49%, which is relatively low compared to other countries, and there is potential for increased tax revenue due to a boom in semiconductor exports.

The issue lay in the depreciation of the Korean won and the subsequent instability in prices and interest rates. As of the closing price on the 26th, the dollar/won exchange rate had risen 4.45% since the end of last year, increasing price burdens and leading to a steep rise in interest rates. Korea's 10-year government bond yield has surged over 20% since the beginning of the year, recording a higher rate of increase than major countries.

The rising exchange rate acted as a factor increasing the risk of currency losses for foreign investors. The KOSPI, which surged 75% last year, has continued its upward trend, rising 90.96% since the start of this year. Foreign investors have been taking profits in the Korean stock market, where their portfolio holdings have grown significantly. Foreign net selling on the KOSPI from the beginning of the year to the 26th reached 96.4 trillion won, marking an all-time high and significantly influencing exchange rate volatility.

This situation highlights capital outflows due to exchange rate instability, despite the Korean stock market's superior attractiveness compared to the U.S. or Japan. The KOSPI's equity yield gap (the relative attractiveness of stocks compared to bonds) was overwhelmingly high against the U.S. and Japan. While the U.S. S&P 500 index shows stock earnings yields and government bond yields nearly matching, Korea's KOSPI, despite its surge, has a trailing P/E ratio that remains around 8-9 times, still making it attractive relative to bonds when considering earnings outlooks.

Although trade surpluses are rapidly increasing, driven by semiconductors, which could improve foreign currency supply and demand conditions, the movement of companies delaying the conversion of export proceeds to fund overseas investments also influenced the rise in the exchange rate. The problem in Korea's foreign exchange market was not its stock valuation but volatility itself. According to Bank of Korea estimates, Korea's won is highly sensitive to capital outflow shocks, with a sensitivity index of 0.65, close to the emerging market average (0.71) and much higher than the Japanese yen (0.38). Concerns were raised about insufficient market depth to support adequate buy and sell orders due to a lack of depth in Korea's foreign exchange market.