South Korea said on Sunday it would impose a levy on banks' foreign debt from late 2011, the latest capital controls it adopted to mitigate the impact a sudden reversal in capital flows may have on its economy.
-- Levy rates to be set later, to take effect in H2 2011
-- Target debts amount to $274bn as of October
-- Currency swaps to be excluded from levy
Domestic banks and branches of foreign banks in the country will be levied on their foreign-currency debts in excess of deposits, and the proceeds will be used in case banks suffer shortage in foreign exchange liquidity in the future.
Exact rates of the levy will be set later but the government offered 0.2 percent, 0.1 percent and 0.05 percent as "examples" depending on the maturities of less than one year, between one and three years and more than three years.
Policymakers have primed investors for the measures over the past several weeks and details unveiled jointly by the country's top four financial authorities on Sunday came in line with the market expectations. "We expect these measures to curb borrowings and improve the soundness of financial services companies as well as secure macroeconomic stability," the Finance Ministry, the Bank of Korea, the Financial Services Commission and the Financial Supervisory Service said in a joint statement.
Analysts said the measures came in line with market expectations and would not likely have a severe impact over the coming days. "I don't see any significant market impact because traders have already factored this kind of measure and because the government excluded borrowings in won," June Park, an economist at Woori Investment & Securities.
There has been talk among traders that the government may also levy banks on borrowings in the local currency and on the outstanding amount of unsettled currency swaps, but both were excluded from Sunday's measures.
The authorities said banks' foreign-currency debt in excess of deposits amounted to $274 billion as of October. It is easily covered by the country's foreign reserves totalling more than $290 billion but a sudden reversal in capital could still easily hurt Asia's fourth-largest economy, which is heavily exposed to overseas financial markets.
South Korea has traditionally had a bigger problem with bank debt than other forms of capital inflows, owing to the huge export orders of shipbuilders and therefore the deep discount on borrowings in foreign currency swapped into the won.
South Korea recently imposed ceilings on the amount of foreign currency derivative traders that banks can enter. Emerging-market economies are grappling with the flood in capital coming from the advanced economies where the still depressed demand prompted authorities to keep the interest rates near zero and financial system flush with eash money.
"Given that capital controls are part of efforts to avoid sharp currency appreciation, emerging countries are likely to strengthen capital controls," said Park.
Leaders from the Group of 20 developed and leading emerging economies sanctioned last month macro-prudential norms by giving emerging markets the green light to use capital controls to deal with volatility in their currencies. Last week, Bank Indonesia Deputy Governor Hartadi A. Sarwono mentioned how concerned the central bank was about hot money inflows.
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