Regulation on Forward Exchange Relaxed to Secure Dollars… Changed 'Foreign Exchange Policy Stance' Due to High Exchange Rate

Government Raises Banks' Forward Exchange Position for the First Time in 4 Years and 9 Months

"Breathing Room for Supply and Demand… Positive for Exchange Rate"

Increased Forward Exchange to 50% of Equity

Domestic Banks to 75%, Foreign Banks to 375%

From Suppressing Rapid Capital Inflow and Short-term Borrowing

Expanded Liquidity to Release More Foreign Currency

Foreign Currency Loans Allowed for Corporate Facility Funds

Stress Test Also Deferred for 6 Months

On the 20th, the foreign exchange authorities significantly eased short-term foreign debt regulations through measures to improve foreign exchange supply and demand. As the won-dollar exchange rate soared to the 1450 won level and the dollar strengthened (weakening of the won) became increasingly strong, it is evaluated that the policy stance, which had strictly limited foreign exchange inflow to prevent the won's value from falling, has been reversed 180 degrees. It is also analyzed that the judgment that there will be no impact on the market even if foreign exchange regulations are relaxed, as the foreign exchange reserves exceed 400 billion dollars and net external financial assets approach 1 trillion dollars, played a role.

○Securing Dollar Liquidity by Relaxing Regulations

The Ministry of Strategy and Finance, Financial Services Commission, Bank of Korea, and Financial Supervisory Service held an emergency macroeconomic and financial issues conference call presided over by Kim Beom-seok, the 1st Vice Minister of the Ministry of Strategy and Finance, and announced measures to improve foreign exchange supply and demand. Initially, this plan was to be included in the '2025 Economic Policy Direction' at the end of this year. However, as the won-dollar exchange rate surpassed 1450 won on the 19th, and the Credit Default Swap (CDS) premium jumped from 0.3395% points on the 2nd, the day before the declaration of martial law, to 0.3736% points on the 19th, raising foreign currency procurement costs, measures were announced in haste.

The core of the foreign exchange supply and demand improvement measures is the expansion of the forward exchange position limit. The government decided to raise the forward exchange position limit for domestic banks from the current 50% of equity to 75%, and for foreign bank branches from 250% to 375% within the year. The limit increase is the first in over four years since March 2020, during the COVID-19 pandemic when the won-dollar exchange rate surged. The forward exchange position limit refers to the limit on the forward exchange that banks can hold relative to their equity (foreign currency assets-liabilities). It was introduced in October 2010 to suppress rapid capital inflow and short-term borrowing.

Typically, banks supply foreign currency funds through transactions in the foreign exchange swap market, where they lend won by giving foreign currency. If the limit on forward exchange transactions is increased, banks' capacity to supply foreign currency funds is expanded, and an increase in dollar supply can be expected.

For example, if the equity of domestic Bank A is 10 trillion won, the current forward exchange position limit is 50%, or 5 trillion won. This means that the difference between Bank A's forward exchange purchase amount (assets) and sales amount (liabilities) should not exceed 5 trillion won when converted to won. If this position limit is full, it was impossible to sell additional dollars in the market. However, if the limit is raised to 75%, Bank A can additionally trade foreign currency worth 2.5 trillion won in the market.

Park Sang-hyun, a senior advisor at iM Securities, evaluated that "the announcement by the foreign exchange authorities today may have some impact on stabilizing market sentiment." A foreign exchange market official predicted, "Foreign bank branches are borrowing foreign currency to invest in domestic bonds," and "if the measures are implemented, there will be a positive impact on the spot exchange market immediately."

○Foreign Currency Loan Regulations Also Relaxed

The government decided to ease restrictions on foreign currency loans used by resident foreign exchange banks to convert to won. It plans to allow foreign currency loans for facility funds of large, medium, and small enterprises, but limit it to export companies with low exchange risk burden. If foreign currency loans for won use increase, foreign currency supply in the market can increase, pulling down the won-dollar exchange rate. Until now, foreign currency loans for won use were fundamentally impossible and were only partially allowed for domestic facility funds of small and medium-sized enterprises. The reason was that if foreign currency loans converted to won increase, won demand increases, and the won's value can soar.

The stress test, which evaluates the shortage of foreign currency funds of financial companies assuming a crisis situation and requires them to submit liquidity expansion plans if they fail, will also be deferred from the end of this year to June next year. The Local Currency Trading (LCT) system, which allows settlement in the counterparty's currency using the existing payment system without dollar conversion, will also be expanded.

Kang Kyung-min/Kang Jin-kyu Reporter kkm1026@hankyung.com