[Exchange Rate Soaring to 1,500 Won]②How Long Will the Surge Last?... Prolonged Highs Could Hit Exporters Too

Despite Concerns of Excessive Exchange Rate Relative to Korea's Economic Size

Market Says "Prolonged by Middle East Instability and Foreign Capital Outflows"

Long-Term Entrenchment Would Deeply Hurt the Real Economy: Higher Inflation Leads to Weaker Domestic Demand

Rising Production Costs Pressure Exporters... Profitability Worsens for 80% of Companies

One key aspect to watch regarding the future trajectory of the won-dollar exchange rate is the possibility of it becoming entrenched at a high level for the long term. The market widely agrees that the current weakness of the won is excessive compared to the size of Korea's economy. However, there is also a consensus that it will be difficult for the high exchange rate trend to be resolved in the short term. This is due to a combination of factors, including growing pessimism over the Middle East war and an outflow of foreign funds from the Korean stock market, both of which have been accumulating as sources of won weakness.

The problem is that if the high exchange rate, hovering around 1,500 won, persists for an extended period, it could have increasingly negative effects on the real economy. With already high oil prices fueling domestic consumer inflation, a prolonged period of high exchange rates could further intensify inflationary pressures. Not only does rising cost of living dampen private consumption, but there are also analyses suggesting that the profits of exporting companies—which have been perceived as beneficiaries of the weak won—could decline.

'1,500-Won New Normal' Exchange Rate Put to the Test... "Unlikely to Break Anytime Soon"

On the 5th, the KOSPI and other indicators are displayed on the status board in the Hana Bank dealing room in Jung-gu, Seoul. Photo by Yonhap News

Market participants believe that in order for the won-dollar exchange rate to decline in a sustained manner, optimism about the Middle East war must return. The initial optimism surrounding peace talks between the United States and Iran has faded as negotiations have stalled, which has also dampened market expectations and is currently supporting the weak won. Hwan-Yeol Lim, a researcher at Woori Bank, stated, "Whether the exchange rate remains at the 1,500-won level for an extended period ultimately depends on issues related to the Middle East," adding, "In particular, what has the most direct impact on the exchange rate is market expectations."

However, there are observations that statements by U.S. President Donald Trump, which previously influenced market sentiment, are no longer effective. Lim further commented, "The market no longer trusts President Trump's remarks about signing a 60-day ceasefire agreement with Iran soon. The market will only respond if there are tangible signs that peace negotiations are making progress." Seok-Hyun Baek, a researcher at the Shinhan Bank S&T Center, also expressed skepticism: "Even if a tentative agreement is reached, interpretations of issues such as the reopening of the Strait of Hormuz differ, so the agreement itself is likely to lack substance and could easily fall apart."

There are also forecasts that if peace negotiations are not visibly progressing within this month, the won-dollar exchange rate could rise even further. This is because strategic oil reserves and surplus inventories held by companies, which have acted as buffers against the shocks of the Middle East war, are expected to be depleted as early as this month, or at least by July or August. Once inventories are exhausted, international oil prices would likely rise, negatively impacting the exchange rate as well.

Even if the core factor—the Middle East war—is removed, other sources of won weakness remain, such as: ▲foreign investors selling Korean stocks ▲increased demand for dollars due to expanded investment in the United States ▲the possibility of the U.S. Federal Reserve raising interest rates in response to inflation. Therefore, the possibility of the exchange rate settling in the 1,500-won range must also be considered. Yong-Taek Jung, a researcher at IBK Securities, pointed out, "Even if short-term factors are resolved, the exchange rate is unlikely to fall easily due to other factors such as investment commitments in the United States." Jeong-Hoon Seo, a researcher at Hana Bank, also predicted, "It will be difficult to expect a meaningful drop in the exchange rate until the outflow of foreign capital eases. The possibility of further tightening by the U.S. Federal Reserve will trigger dollar strength and act as upward pressure on the exchange rate."

Exchange Rate Above 1,500 Won Hits Prices Directly... Prolonged High Rates Could Also Cut Exporters' Profits

Eggs are displayed at a large supermarket in Seoul. Photo by Yonhap News

Although the unprecedentedly high exchange rate, which has surged to the mid-1,500-won range, is unlikely to immediately trigger a financial crisis thanks to ample dollar liquidity, the story is different for the real economy.

A prolonged period of high exchange rates has a broad negative impact on the real economy, starting with inflation. First, a higher exchange rate increases the won-denominated price of imported raw materials and intermediate goods, delivering a direct blow to import prices. This impact is passed along the production and distribution chain, ultimately affecting consumer prices. Rising consumer prices, especially for everyday goods, lower households' real purchasing power, leading to weakened private consumption and, ultimately, hindering recovery in domestic demand.

According to a model analysis by the Hyundai Research Institute, a 10% increase in the exchange rate is estimated to raise the consumer price inflation rate by about 0.3 to 0.5 percentage points. Based on last year's annual consumer price inflation rate of 2.1%, if the exchange rate rises by 10%, consumer prices would increase to around 2.4% within three months and to about 2.6% after six months.

Currently, inflation indicators are rising rapidly. Import prices, hit by high oil prices, have already surged 20% year-on-year for two consecutive months. Producer prices also rose by 2.5% in April compared to the previous month, marking the largest monthly increase since February 1998 during the foreign exchange crisis. The consumer price inflation rate followed suit, rising from 2.6% in April to 3.1% in May. In particular, the cost of living index—which reflects prices for food, clothing, transportation, and communication—rose 3.3% last month, marking the highest increase since April 2024 (3.6%). Taek-Keun Lee, a research fellow at the Hyundai Research Institute, said, "In the current phase of combined shocks from rising international oil prices and exchange rates, the impact on import prices is transmitted rapidly, amplifying upward pressure on consumer prices even more than usual."

A prolonged period of high exchange rates also negatively affects exporting companies. Exporters are generally considered prime beneficiaries of a weaker won, as the dollar-denominated prices of their goods become more competitive and their sales increase when converted into won at the same dollar price.

However, if the high exchange rate becomes entrenched, the import costs for exporters—especially those highly dependent on imported raw materials and intermediate goods—rise, and some of these cost increases are passed on to companies relying on domestic supply as well, burdening the overall domestic industry with excessive production costs. According to the Korea International Trade Association, when the exchange rate rises by 10%, the operating profit margin of 62% of exporters increases in the short term. However, if the high exchange rate persists and companies fail to promptly reflect higher production costs in their sales prices, the profitability of 80% of companies deteriorates.

In particular, the semiconductor industry, which is currently driving Korea's economy, faces a high risk of rising production costs due to high exchange rates, as 53.8% of small and medium-sized companies in the sector are net importers. Senior researcher Won-Bin Do of the Korea International Trade Association emphasized, "The prolonged phase of high exchange rates is increasing production costs across Korea's industries, offsetting short-term gains from increased direct exports and undermining the profitability of Korean companies. The government should prioritize foreign exchange market stabilization measures to contain inflation and protect corporate profitability."

This content was produced with the assistance of AI translation services.