S. Korea to further tighten banks’ handling of currency forwards

South Korea said Tuesday it will lower the ceiling of foreign exchange forward positions held by local and foreign banks by 25 percent in a bid to curb the volatility of cross-border capital flows.

The move will restrict local branches of foreign banks from holding currency forward deals to 150 percent of their equity capital from the current 200 percent. The ceiling for domestic banks will be lowered to 30 percent from 40 percent, the government said. The move will fully take effect starting on Jan. 1.

"Korea's relatively sound economic fundamentals and ample global liquidity are raising the chances that the volatility of cross-border capital movements will increase," the finance ministry, the central bank and the financial regulators said in a joint statement.

"South Korea plans to continue to craft out phased responses and will preemptively take actions, if needed, in a bid to prevent the volatility of foreign capital flows from hitting the financial market."

South Korea took similar steps twice in 2010 and 2011 in a bid to curb rising short-term foreign external debt as part of the so-called macro-prudential measures to stem excessive cross-border capital movements. 

The move came as the Bank of Korea and the Financial Supervisory Service wrapped up an inspection of local banks' handling of foreign exchange forward positions amid the local currency's ascending trend.

A series of credit rating upgrades on Korea and quantitative easing by major central banks are helping more foreign capital flow to into Asia's fourth-largest economy, making the won appreciate more than 6 percent to the greenback so far this year.

The foreign exchange authorities recently strongly warned against one-sided behavior in the market, saying that the government will "take necessary measures" if market fluctuation intensifies.

Despite the announcement of the regulation, the local currency was trading at 1,084.25 won to the dollar as of 10:04 a.m., up 1.25 won from Monday's close, analysts say.

"The move was widely anticipated in the market, and can be seen as another form of intervention to slow the won's appreciation," said Byeon Ji-young, a currency analyst at Woori Futures Co.

"Given lingering burdens for further regulation, the local currency is likely to trade in the 1,080-won range to the dollar for the time being."

Whenever a financial crisis has cropped up, South Korea has undergone excessive capital outflows and subsequently, its currency sharply weakened to the greenback.

After recovering from the 2008 global financial crisis, Korea has implemented a set of the macro-prudential measures to ease volatile cross-border capital flows including bank levies and tighter regulations on banks' foreign exchange forward positions.

(Yonhap News)