Time to adopt strong currency policy

Democratizing the economy is a buzzword among the major presidential candidates. They blindly believe taming chaebol will automatically solve Korea’s economic polarization. Furthermore, although they all advocate reforming the over-reaching conglomerates, they have yet to provide a roadmap to kick-starting the economy, which has been growing below its potential growth rate of 3.5 percent.

A feasible approach to balancing the growth between large and small companies is the appreciation of the Korean currency. President Lee Myung-bak instituted a weaker currency in order to boost exports, which he argued will, in turn, stimulate the economy and distribute the economic benefits to the people.

Indeed, the weaker currency policy has been able to maintain a trade account surplus and achieve a higher credit rating in contrast to many of its OECD peers.

However, the weaker currency has also facilitated the economic polarization in the country. While it benefited conglomerates such as Samsung, Hyundai, LG, SK and POSCO, which have posted record sales and earnings in recent years, it reduced the buying power of domestic consumers.

Under the weak currency regime, consumers have had to buy daily necessities such as gasoline and major agricultural products at exorbitantly high prices. This further widened the gap not only between the rich and the poor, but also between large and small companies.

How much is the Korean currency undervalued vis-a-vis other major currencies, including the dollar, yen and euro? South Korea’s policymakers argue that the currency rate is at an optimal range. They contend that this rate has been determined in accordance with the demand and supply. However, currency dealers are not convinced and thus are closely monitoring the central bank’s heavy-handed interventions in the currency market.

There are several indications that the won is undervalued. First is the record influx of foreign tourists, including the Japanese, who come to Korea in search of bargains. Another is the fact that the won-dollar rate still hovers at 1,150 to 1 despite the massive printing of the U.S. dollar. This U.S. quantitative easing should have naturally increased the value of the local currency, as it did in Canada and Australia. However, the Korean won has gained little since.

Policymakers think that the weak currency is necessary as Korea is heavily dependent on exports. They think that a stronger currency will lead to a sharp drop in exports, and consequently to a trade deficit. However, this thinking is misguided and producer-oriented.

Korea’s major exports, including microchips, smartphones, cars and ships, are no longer price sensitive as they were in the past. These major products have become competitive and appealing to foreign consumers. Thus, with a strong won, exporters will not necessarily see a drop in overseas demand, although they may see thinner margins.

Chang Se-moon, professor of the University of Alabama, says neither cheap nor expensive currency is necessarily good. He recalled Korea’s 1997 crisis which was caused by the strong currency policy that made foreign borrowing cheap. He warns a strong currency will tempt chaebol to increase investment overseas. “There is no such thing as a market-determined exchange rate. All governments intervene and how flexible exchange rate is a matter of degree,’’ he says.

The losses from the weaker currency regime have outweighed the gains. As chaebol, especially exporters, have gained significantly from the regime, they seldom shared these benefits to consumers such as through providing more jobs. Thus, the Lee administration is not popular among the people, even though exports are booming. The time has come for policymakers to fundamentally rethink the currency policy. In theory, the currency rate should result from the equilibrium between demand and supply.

A strong currency policy increases the welfare of consumers and boosts both domestic and overseas demand. It will also encourage exporters to improve innovation and productivity in order to survive. In a nutshell, the country can ease the economic polarization through a strong currency policy. Furthermore, a strong currency is a sign that a country is in good economic health, which can boost the morale of the people.

Whoever becomes the next president should strengthen the Korean currency if he or she really wants to democratize the economy, which involves weakening the power of conglomerates and narrowing the income gap. Economic democratization through an arbitrary attempt to tame chaebol will backfire, weakening the economy further.

Many economists believe that optimal won-dollar rate is in the three-digit range. According to them, exports will not plunge at the 900–999 won range. This rate can be implemented gradually. An early indication of a shift toward a stronger won will prompt exporters to quickly restructure their operations for high value-added products, which in turn will lower consumer prices and increase domestic demand.

A strong won is necessary for the welfare of Korean consumers, not for bowing to the expected foreign pressure. It is a market-oriented approach to keeping the economy healthy. A stronger currency will stimulate domestic demand, thus balancing the growth between large and small, and export and non-export companies.

The next administration has two options: to keep the current higher won-dollar rate policy and tolerate the dominance of chaebol, or to make the won stronger, thus boosting domestic demand and rebalancing the growth between large and small, and export and non-export companies. A strong won would be equivalent to hiking welfare without increasing taxes. Why should Korean consumers tighten their belts in order to subsidize well-performing exporters and large companies?

Lee Chang-sup is the executive managing director of The Korea Times. Contact him at editorial@koreatimes.co.kr. <The Korea Times/Lee Chang-sup>

news@theasian.asia