A brief report on

Korea’s Economy Through The COVID-19 Crisis

Submitted to

Syeda Mahrufa Bashar

Associate Professor
Institute of Business Administration, University of Dhaka
Course: Financial Markets and Institutions (F403)

Submitted by

Nowshin Islam
RH-95

BBA 25th Batch

Institute of Business Administration

University of Dhaka, Dhaka

June 25, 2020

COVID-19 & The Republic of Korea
Being a close neighbour to China, Korea is one of the first few countries that was attacked by the
coronavirus. In 2015, South Korea had experienced a MERS outbreak and so was relatively more
prepared than other countries. Therefore, within a short period after the first case of coronavirus
infection, Korea has shown remarkable performance in not only controlling community
transmission of the virus but also shielding her economy from negative pressure by undertaking
multiple policies and programmes. Although Korea had a headstart in dealing with this
pandemic, its measures and steps can be followed as a guideline to assist other similar economies
to get back on their feet. Certainly, no economy will go back to its pre-pandemic condition in the
short run.

The Economy: Past and Present

Money Market
To shed some light on the availability of money in the economy, the broad money (M3)
condition in the country is assessed. The graph below depicts the comparison between the broad
money of all other economies combined (black) and that of Korea (red) from before the impact
of the pandemic, September 2019 to March 2020. As the chart shows, Korea’s broad money
situation has been stable and non-impacted by the pandemic and much higher than the average.

Source: OECD. M3 is expressed as a seasonally adjusted index based on 2015=100.

To present some more insights, the graph below shows that in the case of narrow money (M1)
the gap with the average is narrower and there has been a significant rise in it after the
coronavirus hit Korea.

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 Source: OECD. M1 is expressed as a seasonally adjusted index based on 2015=100.

Monthly corporate lending has increased significantly in March and April (Appendix C). This
was mostly influenced by increased demand for working capital and the government’s financial
support measures. Steady growth was maintained in household lending until April. However, in
the following period, it picked up a slower pace mainly due to declining demand for housing-
related funds.
The financial institutions and businesses are experiencing difficulties in foreign currency funding
due to strains in the global financial markets. That is why FX stability measures were called for
to assist businesses that are dependent on foreign currency for working capital.

Effects of COVID-19
Due to the outbreak of the COVID-19, the GDP growth rate of Korea is estimated to fall by 0.2%
in 2020 (Appendix A) and
bounce back up to 3.4% in
2021, given that the global
economy experiences a post-
pandemic recovery (IMF,
April 2020). In 2019 public
finances have deteriorated,
despite stimulus packages.
The employment scenario
showed progress, yet, the
government is struggling to
turn employment around. It
is, however, expected by the
IMF that the adverse economic impact of COVID-19 will slightly impact the unemployment rate
of the country. The rate is currently estimated to increase to 4.5% for the years 2020 and 2021.
However, overall, they also projected the Korean economy to contract less than G7.

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The Budget Outlook
With a shrink in the budget surplus to 0.7% of GDP, the IMF projects the fiscal deficit to reach
0.7% and 1.7% of the GDP in 2020 and 2021 respectively. In order to accelerate the economy
through expansionary fiscal spending, the government of South Korea has invested great efforts.
It has passed three supplementary budgets in the last four months, which included reductions in
the revenue with multiple increments in the provision for spending on healthcare, households,
social security, affected local economies, loans and guarantees for businesses that have suffered,
financial support for companies, and expansion of employment. Moreover, government revenues
are estimated to increase by 1.2% from last year, while the expenditures will rise by 9.3%.
(Source: Ministry of Economy and Finance) Public debt escalated to an estimated 43.4% of GDP
in the current year and is expected to reach 46.4% in the following year (Source: IMF).
However, the inflation rate is projected (Appendix B) to remain at 0.3% in 2020 (April 2020
World Economic Outlook IMF).

Policies & Measures

Several policies and measures have been undertaken by the Bank of Korea (BOK) in order to
support the recovery of economic growth. These were mainly facilitating liquidity in the
financial system and ensuring continued accommodative monetary conditions.

Interest Rate
Over a medium-term horizon, it is the target for the Korean economy to gradually converge its
inflation to 2%. Due to this policy stance, the Bank of Korea lowered the Base Rate by a
cumulative 75 basis points, from 1.25% to 0.5% on two instances in March and May 2020.
(Appendix D) The spread of the coronavirus outbreak resulted in significantly increased volatility
in domestic and global financial markets. That is why, in order to reduce the spillover effects on
the real economy and to ensure stability with respect to major economies, the monetary policy
board decided to lower the base rate. In March the board also expanded the use of non-interest
rate policy instruments to stabilize the financial market, which is why the base rate was kept
static until further economic changes emerged in May with the global economy contracting due
to constrained economic activity because of the pandemic. In the domestic economy the labour
market shrunk along with the consumer price inflation; the latter due to decreasing international
oil prices and weakening demand-side inflationary pressures.

Insights: The local financial market participators demonstrated little reaction to these rate cuts as
it was expected. Moreover, investors are speculating further cuts at the beginning of the next
year indicating that the effects of the pandemic will still prevail. The rate cuts, on the other hand,
is a good occurrence for the employment scenario of Korea. These steps were taken mostly to
counter the deflationary pressures and protect businesses, mostly SMEs, from the burden of not
being solvent enough to pay back creditors.

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Lending & Borrowing
In March and May, the Bank of Korea raised the ceiling of the Bank Intermediated Lending
Support Facility by 40% for supporting
companies that were affected by the
pandemic. In March the Central Bank
reduced the interest rate on support
programs under the Bank Intermediated
Lending Support Facility from 0.50-0.75%
to 0.25%, in order to incentivize banks to
lend to
Small and Medium Enterprises (SME),
alleviate their interest burdens and improve
their financial positions. The Bank of Korea
also expanded the range of eligible
collateral for lending services to reinforce
the basis for the central bank to
uninterruptedly supply liquidity into the
financial system through loans to banks
when required, and to assuage the banks’
burden of providing collateral against loans.
In addition, the Bank decided to decrease
the ratio of collateral that is required to
guarantee net settlements by 20%. It has
also expanded the lending capacity
including emergency lending and partial
and full guarantees of both state-owned and
commercial banks to SMEs, small
merchants, mid-sized firms, and large
companies.
From May 2020 the central bank has been
using a lending scheme, the Corporate Bond
Backed Lending Facility (CBBLF). This
will act as a safety net for businesses, banks and non-bank financial institutions including
securities companies and insurance companies against extreme cases of lacking funds with easy
access to credit from the Bank of Korea whenever eligible corporate bonds are posted as
collateral.

Insights: Such measures without a doubt serves the purpose of the program to inject liquidity
into the market. Businesses, mainly SMEs, are struggling to generate adequate liquidity through
business operations. Hence, it will help provide working capital to enterprises, which have a high
leverage capital structure without letting go of assets or downsizing. Moreover, the expansion of
the range of collaterals makes borrowing easier and spreads out the risks of non-performance of
loans. Along with businesses, financial institutions are also braced from a liquidity crisis by the
CBBLF. This will enhance the financial institutions’ capability to provide its services to both
depositors and borrowers amid low deposits.

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Market Stabilization Measures
A financial stabilization plan worth 5.3% of GDP was announced by the President of Korea in
April. The different money market instruments have been utilized to execute the plan and enable
stability in the Korean economy.

Open Market Operations

In April the Bank of Korea expanded the range of eligible institutions that can participate in
Open Market Operations (OMOS) to include select non-bank financial institutions for a faster
and wider liquidity supply into the system. This will be effective until the next month. The Bank
also expanded the range of securities eligible for open market operations to include bank bonds,
certain bonds from public enterprises and agencies, and government-guaranteed Mortgage-
Backed Securities (MBS) issued by the Korean Housing Finance Corporation (KHFC), which
will be effective until March next year.

Insights: The above-mentioned measures taken by the Bank expanded liquidity supply channels
and improved the collateral availability of financial institutions. This made unlimited amounts
available to lending organizations through open market operations. Also, these facilities will be
effective for a year, which will prevent excessive liquidity in the financial system.

Securities
As the government and the Bank of Korea expanded the range of collaterals it also developed a
plan to set up a Special Purpose Vehicle (SPV), which is supposed to manage the purchase of
corporate bonds and commercial paper for market stability of credit securities as long as the
pandemic prevails. For the purpose of executing this plan, a total of KRW 10 trillion will be
invested initially. An additional fund of KRW 10 trillion for SME lending is also planned.
However, there may arise a tendency for credit risk aversion. As a result, lower-rated corporate
bonds and commercial paper were also added in the monetary instruments for purchase.
Moreover, the Bank has also purchased Korean Treasury Bonds worth KRW 3.0 trillion on two
occasions. A bond market stabilization fund is established to purchase corporate bonds,
commercial paper, and financial bonds. The issuance of corporate bonds is also financed by
public financial institutions through collateralized bond obligations and direct purchases of
bonds.

Insights: The Special Purpose Vehicle plan is going to deal against the investors’ tendency of
credit risk aversion as the sole purpose of an SPV is to diversify and spread out the risks among a
pool of investors. Hence, the inclusion of lower-rated corporate bonds and commercial papers
will facilitate liquidity within the issuing companies. On the other hand, the Bank of Korea
bought treasury bonds to not only finance government programs but also inflate the declining
rates (Appendix C).

Repurchase Agreements
For achieving the goal of financial market stability, the Bank of Korea has expanded repo
operations to non-bank institutions. As a response to the short-term financial market
discrepancies arising in late March, the Bank injected liquidity into the system through non-
regular purchases of RPs from non-bank financial institutions (NBFI). A regular RP purchase

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facility was also temporarily adopted by the Bank of Korea through which an unlimited amount
of liquidity was supplied into the financial system based on the market demand in the last three
months. This step was undertaken to ensure financial market stability and to support the timely
implementation of the government’s Financial Support Package. This is a weekly regular RP
purchase facility through which the Bank of Korea buys 91-day bonds in repo auctions at a fixed
interest rate in full without any auction limit.

Insights: The expected outcome of this measure is adequate liquidity among the financial
institutions so that lending services can be extended and the special lending programs by the
bank and government’s support programs can be executed. And working as a benchmark for
short-term interest rates, the repo auctions at a fixed interest rate is going to control inflation in
the financial market.

Foreign Exchange Market

The Bank of Korea has undertaken FX market stabilization measures for providing FX liquidity
to the financial institutions and businesses. In March, the demand for the US dollar surged due to
expanded risk aversion in the global financial markets. Amid that situation, the Bank signed a
sixty-billion-dollar bilateral currency swap arrangement with the Federal Reserve. It then, for the
first time since the global financial crisis, conducted competitive US dollar loan facility auctions
using the proceeds of swap transactions. The rules and regulations for FX market stability were
applied smoothly in consideration of the FX liquidity conditions of financial institutions. The
central bank also conducted local currency swaps with Canada, Switzerland, Malaysia, Australia,
Indonesia, China, and the UAE. Amid rising concerns over the domestic FX liquidity conditions,
the Bank lowered the FX liquidity coverage ratio by 10% and raised the ceilings on the FX
derivatives positions of banks by 25%, effective temporarily for the next three months.
Moreover, the Bank temporarily lifted the levy on financial institutions’ non-deposit FX
liabilities.

Insights: The bilateral currency swap has given Korea liquidity in a more stable currency, the
US dollar, and the ability to smoothly facilitate dollar-denominated debt. A huge portion of
earnings of Korea comes from exports and other international sources. However, the value of the
Korean Won has been rapidly declining with occasional lifts since the first quarter of 2019
(Appendix C). Hence, the local currency swap with the USA and seven other countries was
called for. This step has also enabled the economy to boost its local currency usage and thus
reduce dependency on US dollars.

Equity Market and Industries

An equity market stabilization fund is also established, which is financed by financial holding
companies and leading financial institutions. The export market of Korea has been suffering
since before the virus hit the country. Financial support worth 1.9% of GDP was announced in
April to alleviate financing burdens of exporters. These measures also include increased amount
and maturity of trade credit and the expansion of trade insurance. The Korea Development Bank
is going to operate an industry stabilization fund for supporting seven critical industries- airlines,
shipping, shipbuilding, autos, general machinery, electric power, and communications- through
loans, payment guarantees, and investments. The fund will be 2.1% of GDP and raised by
issuing government-guaranteed bonds and contributions from private funds.

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Insights: Being a highly globalized and digitized economy, Korea depends on exports and the
economy reactive to global economic changes. Therefore, it is very important for Korea to
protect those industries to prevent a huge portion of its economy from falling apart. The
administration's measures on specific industries related to exports are commendable. The
industry stabilization fund will act as a safety net for those industries until global economic
activities get back on track.

Other Measures
The financial stabilization plan of the Korean government also includes short-term money
market financing through stock finance loans, purchases of repo by the central bank, and
refinancing facilities by the public financial institutions. Furthermore, with corporate bonds as
collateral, the Bank of Korea has developed lending facilities to non-banks. Advance-to-deposit
ratios (ADR) for banks and other financial institutions and the local currency liquidity coverage
ratio (LCR) for banks have been eased temporarily. In case of changes in regulations, it is
temporarily prohibited to short-sell stock in the market and rules on buying back shares have
been temporarily eased.

Insights: With businesses and employment at risk, the rate of deposits have significantly
declined in every economy. A lower ADR and LCR with borrowing facilities from the central
bank ease the regulatory burdens of banks and other financial institutions and reduces the effects
of liquidity crisis due to COVID. The prohibition on short-selling will serve the same purpose
but the brokers and hedge funds will be negatively impacted by this move and the effects might
be irreversible.

Conclusion
As conditions for accessing support, businesses will be required to maintain employment, limit
executive compensation, dividends, and other payouts, and share benefits from business
normalization in the future. The developed world is looking up to countries like Korea to follow
as a guideline for restarting the economy. The main goal of all the monetary and fiscal measures
taken by the government of Korea is to ensure enough liquidity within the financial system and
most of them are going to be undertaken through government-guaranteed money market
instruments. Although risks are hedged by including corporate bonds and other instruments in
the stabilization fund portfolio, the financial burden on the government is going to be huge and
there is yet no guarantee of these measures being able to take the economy back to the pre-
pandemic condition any time soon. Furthermore, most economic and monetary measures taken
by the Republic of Korea is to provide enough liquidity for a specific time period in order to
protect businesses and the financial system from a liquidity crisis like the global financial crisis
in 2008. However, there is a high risk of inflation rate to rise up rapidly in the first quarter of
2021, if the current policies remain unchanged, as Korea is preparing to resume its economic
activities from the third quarter of this year.

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 References
The economic context of South Korea. (n.d.). Retrieved from
https://www.nordeatrade.com/en/explore-new-market/south-korea/economical-context

Monetary aggregates - Narrow money (M1) - OECD Data. (n.d.). Retrieved from
https://data.oecd.org/money/narrow-money-m1.htm

Monetary aggregates - Broad money (M3) - OECD Data. (n.d.). Retrieved from
https://data.oecd.org/money/broad-money-m3.htm

Policy Responses to COVID19. (n.d.). Retrieved from https://www.imf.org/en/Topics/imf-and-

covid19/Policy-Responses-to-COVID-
19?fbclid=IwAR2aQrMlbwhjfNz9dyi0r6nEiOTVTkK3G5AoqRcsbQoG5rajFncKf-
GStXs

(n.d.). Retrieved from http://www.fsc.go.kr/eng/new_press/releases.jsp?menu=01

Policy Response to COVID-19(목록): Monetary Policy: Bank of Korea. (n.d.). Retrieved from
http://www.bok.or.kr/eng/bbs/B0000308/list.do?menuNo=400380

Kim, S. (2020, April 22). South Korea's Shrinking Economy Braces for More Pandemic Pain.
Retrieved from https://www.bloomberg.com/news/articles/2020-04-22/south-korea-s-
economy-shrinks-most-since-2008-amid-pandemic

Kim, C. (2020, May 20). South Korea sets up $8.2 billion special purpose vehicle to stabilise
bond market. Retrieved from https://www.reuters.com/article/us-southkorea-
economy/south-korea-sets-up-8-2-billion-special-purpose-vehicle-to-stabilise-bond-
market-idUSKBN22W06R

Select Subjects. (n.d.). Retrieved from

https://www.imf.org/external/pubs/ft/weo/2020/01/weodata/weoselser.aspx?c=542

Ferrier, K. (2020, March 26). South Korea and a COVID-19 Financial Crisis: Part 2. The
Peninsula. Korea Economic Institute. Retrieved from https://efile.fara.gov/docs/3327-
Informational-Materials-20200410-122.pdf

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 Appendices
Appendix A:

Appendix B:

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 Notes: 1)Year-on-year percentage change
Source: International Monetary Fund, World Economic Outlook Database, April 2020

Appendix C:

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Appendix D:

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