Korean bank package raises expectations

Markets react cautiously to Korea's financial support measures, while waiting for a regional initiative.
South Korea's currency and stockmarket rose following the governmentÆs weekend announcement of the regionÆs biggest financial support package. And while the government has promised further autonomous measures should conditions worsen, there is still no sign û despite expectations among some investors û that Asian central banks are about to announce a protective regional currency swap arrangement.

Korea has been touted as a possible mediator between China and Japan, which are believed to be competing for the leading role in any regional cooperative movement.

Minister of strategy and finance Kang Man-soo, financial services commission chairman Jun Kwang-woo and Bank of Korea governor Lee Seong-tae announced KoreaÆs individual support package at a joint news conference on Sunday. They said the authorities will provide up to $100 billion to guarantee maturing foreign currency debt of Korean banks on loans taken out from October 20 this year up until June 30, 2009. The protection will last for three years and until the National Assembly approves the measures, the guarantees will be provided by either the Korea Development Bank or the Export-Import Bank of Korea.

In addition, the Bank of Korea will use its foreign exchange reserves (which are about $240 billion in total and the sixth biggest in the world) to supply $30 billion of extra liquidity to the banking sector.

However, at this stage there are no immediate proposals by the government to offer expanded deposit guarantees or to inject new capital into financial institutions û although it implied that it might recapitalise financial firms if necessary in the future. Instead, the government repeated that the countryÆs economy and financial sector were ôsoundö. Kang recognised, however, that KoreaÆs ôbanks could be discriminated [against] or could be in a difficult situationö if the government delayed taking action to bolster confidence.

The plan, equivalent to about 14% of the countryÆs gross domestic product, was worked out in an emergency meeting after Standard & Poor's said last week that KoreaÆs banks may find it tough to secure overseas funds. On October 16, the won lost 11%, but has since recovered by more than 4%. Nevertheless, since the beginning of this year, Korea's benchmark Kospi stock index has fallen 38% and the won has dropped by almost 30% against the dollar.

S&P has said it may downgrade its credit ratings for seven of South Korea's biggest banks due to concerns about their foreign currency funding. The Korean officials themselves estimated that the banks will face $80 billion of maturing external debt by the end of June next year.

Korean banks have a low deposit base compared with their loans, so they are dependent on short-term debt markets or wholesale funding in the interbank market, which is a liquidity source that has all but dried up û not just in Korea but throughout the world û and is at the heart of the credit crunch. According to MoodyÆs Investor Services, Korean banks get up to 12% of their funding from international banks.

The Kospi index rose 2.3% on Monday as local investors bought shares in banks and large caps, but foreign investors continued to sell, because of renewed anxieties that North Korea would break off ties with the South, concerns about the outlook for exporters and fears that the financial package was insufficient. And despite the weekend announcement, rates on three-months certificates of deposits rose on Monday to 6.12%, close to an eight-year high.

Meanwhile, the Asian Development Bank called on Korea to take action to boost the economy, saying it would struggle to grow even 4% in 2009. Exporters are expected to see sharply reduced earnings and highly indebted domestic consumers are unlikely to fill the gap in GDP growth by increasing their spending.

Fears were partially assuaged when deputy finance minister Shin Je-yoon told foreign journalists later on Monday that additional government action might be needed to help restore confidence in the financial market and to reinvigorate KoreaÆs economy. "Depending on market conditions, we may need other steps to reassure investors and boost the economy," he said. Although he didnÆt give any details, his comments prompted hopes that the Bank of Korea might cut interest rates significantly to help the struggling construction sector when it meets for its next monthly review on November 7. The central bank cut interest rates to 5% this month in its first reduction in four years.

And in another positive move, Korea's National Pension Service said on Monday that it will buy W200 billion ($153 million) of domestic bonds from each of Kookmin Bank and Woori Bank, and added that it was in discussions to do the same with other local banks.

However, investors are likely to expect additional measures from the Korean authorities, and will continue to wait for clearer signs of regional cooperation among central banks.
¬ Haymarket Media Limited. All rights reserved.
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