September 12, 2017 / 3:05 AM / 10 days ago

Fitch: Korean Tensions Creating Spillovers Beyond Peninsula

(The following statement was released by the rating agency) HONG KONG/SINGAPORE, September 10 (Fitch) Heightened tension over North Korea's nuclear weapons programme could have a substantial impact on South Korea's economy and cause broader effects if it disrupts trade relations, most notably between China and the US, says Fitch Ratings. Nevertheless, the risk of an outright conflict, while rising, is still low. The North Korean issues are long-standing and have shown a cyclical pattern for many years, and occasional escalations have not been uncommon. Our 'AA-' sovereign rating with Stable Outlook on South Korea is one notch lower than that implied by our Sovereign Rating Model, largely to take into account the risks associated with a potential military conflict and a scenario of reunification - which would involve large fiscal costs for the government. Estimates of the cost of reunification vary substantially, but South Korea's National Assembly Budget Office has put it at an average of 3.9% of GDP annually over a 45-year period. We believe outright conflict remains unlikely as the North and South have too much to lose in attacking one another, given the devastation and likely downfall of the North Korean regime that would result. That said, tensions are higher than they have been for many years, and the strategic balance is changing. North Korea continues to strengthen its ability to reach US territory with nuclear weapons, which has raised the possibility of a pre-emptive strike on the North by the US. There is also a risk that confrontation could be triggered by an unexpected event or miscalculation on either side. Conflict could have a dramatic impact on South Korea's economy and might also be highly disruptive to international financial flows and global trade, given South Korea's importance as a major producer of electronic and automotive components. Even without military conflict, further escalation of tensions could have an economic impact on South Korea. The end of a long period of domestic political uncertainty and a recovery in electronics exports pushed real GDP growth up to 2.8% yoy in 1H17, but this positive momentum might be halted if friction with the North undermines business and consumer sentiment. Disputes with China over South Korea's Terminal High Altitude Area Defence (THAAD) anti-ballistic missile system have already had a negative impact on the South through a drop in tourism inflows from China and lower exports of consumer products, such as cars, to China. Tensions also have the potential for global spillovers. In particular, there is a risk of a deterioration in trade relations between the US and countries that trade with North Korea. Most notably, the US administration could take trade measures against China - which is by far North Korea's most important trade partner - if it perceives that China's economic and diplomatic pressure on the North is inadequate. The US is China's largest export market, accounting for almost one-fifth of its shipments. Disruption to trade between the US and China could also have consequences across the rest of the Asia-Pacific, given the linkages embedded in regional supply chains. Contact: Thomas Rookmaaker Director Sovereigns +852 2263 9891 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central Hong Kong Stephen Schwartz Senior Director Sovereigns +852 2263 9938 Dan Martin Senior Analyst Fitch Wire +65 6796 7232 Media Relations: Leslie Tan, Singapore, Tel: +65 67 96 7234, Email: leslie.tan@fitchratings.com; Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. 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