March 18, 2020 / 2:21 AM / 2 months ago

South Korea loosens FX derivative rules to ease critical dollar shortage

SEOUL (Reuters) - South Korea on Wednesday said it will relax a key foreign exchange regulation to encourage banks to supply more dollars in local markets as the coronavirus pandemic drives a global rush for the U.S. currency.

South Korean 10,000 won note is seen on U.S. 100 dollar notes in this picture illustration taken in Seoul, South Korea, December 15, 2015. REUTERS/Kim Hong-Ji/File Photo

A cap on foreign currency forward positions that can be held by local banks will be raised to 50% of their equity capital from 40% currently, starting March 19, the finance ministry and the Bank of Korea said in a statement. For foreign banks, the same ceiling will be raised to 250% from 200%.

The finance ministry estimated the move would increase dollar supply in the market by $5 billion to $10 billion. It could be followed by other measures such as injecting foreign exchange reserves to boost liquidity, said Kim Seong-wook, a director general at the finance ministry.

The ministry’s indirect, targeted approach, however, fell short of some market expectations.

“Some local branches of foreign banks could increase dollar supply, but it hasn’t turned around sentiment, because what’s important is giving confidence to the market that there would be enough dollars to go around whenever,” a local dealer said.

Won-dollar one-year basis swaps narrowed to -223 basis points following the announcement from -269 reached on Tuesday, according to Refinitiv data, suggesting a slight easing of a mismatch in dollar liquidity.

The won-dollar currency basis spread indicates the premium Korean financial institutions need to pay on top of dollar LIBOR.

A flight to safety has led to a massive decline in dollar liquidity across the world as the deepening economic impact of the pandemic forces investors to liquidate their holdings of commodities, stocks and riskier bonds. That, and a rush by brokerages to secure dollar funding out of concern about future cash flow, has led to a scramble for dollar financing.

Central banks from Japan to India have pledged to conduct dollar funding operations in the past week to ease funding constraints.

South Korean securities companies, in particular, are facing margin calls, forcing them to deposit additional funds in U.S. dollars to maintain their overseas investments amid the global market rout, pushing up demand for the greenback.

Finance minister Hong Nam-ki on Wednesday said the government is preparing to roll out a more “comprehensive financial support” package soon to help companies hit by the virus outbreak.

He also vowed to deploy a fund to stabilise bond market volatility if needed, to calm investor sentiment and stop currency market panic spreading to other financial markets.

The U.S. Federal Reserve has not only cut rates to near zero and pledged to pump hundreds of billions of dollars into markets, it has also cut the pricing on its dollar swap lines with foreign central banks to make it easier for them to provide dollars to financial institutions around the world.

South Korea also announced on Wednesday sector-specific measures to help companies hit by the virus outbreak, offering particular support for the airline industry.

Reporting by Cynthia Kim, Yena Park; Editing by Sandra Maler and Sam Holmes

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