In mid-May, the USD/KRW exchange rate plunged from the 1,420 won range to a seven-month low in the 1,360 won range, with the Korean won appreciating 2.45% in just one week. This sharp move was attributed to reports of ongoing currency consultations between South Korea and the United States, fueling speculation that Washington would pressure Seoul for a stronger won. On May 14, news of the talks sent the exchange rate tumbling from the 1,420 won level to the 1,390 won level in a single day. The dollar’s weakness persisted, with the rate hitting an intraday low of 1,360.5 won on May 26—a level not seen since early October last year and a sharp reversal from the recent high of 1,484.1 won on April 9.


Historically, the United States has leveraged tariffs to pressure trading partners for currency appreciation when a strong dollar widened its trade deficit. In August 1971, President Nixon suspended the dollar’s convertibility to gold and imposed a 10% surcharge on all imports. This was followed by the Smithsonian Agreement in December, which led to the revaluation of major currencies. The dollar subsequently lost about one-third of its value during the 1970s. In September 1985, the G5 nations (the US, Japan, West Germany, France, and the UK) convened at New York’s Plaza Hotel and agreed to weaken the dollar, prompting coordinated central bank intervention. Over the next two years, the dollar plunged 40–50% against the yen and the Deutsche mark.


However, today’s environment is fundamentally different. The global monetary system now operates under a free-floating exchange rate regime, making it difficult for countries to publicly agree on or intervene in target exchange rates. In 1971, with fixed exchange rates, artificial adjustments were inevitable, but today, exchange rates reflect underlying economic conditions, reducing the need for such interventions. In the 1980s, a surging dollar battered US manufacturing—steel, autos, electronics—forcing restructuring and pushing unemployment above 7%. By contrast, the US now enjoys what is often called “US exceptionalism,” with robust growth outpacing peers. Domestically, there is strong opposition to high tariffs, and the US government maintains a strong-dollar policy, emphasizing that exchange rates should be determined by the market. Moreover, the current US-first approach, which pressures not only China but also allies, makes international coordination far less likely than in the past.


Instead, the dollar’s weakness is being driven by market forces. By early 2025, the dollar was already seen as significantly overvalued relative to its long-term average, prompting expectations of a reversal. The Trump administration’s repeated tariff threats have heightened uncertainty over US growth prospects, prompting global investors to reduce exposure to US assets. Concerns over ballooning fiscal deficits from US tax cuts and Moody’s downgrade of the US sovereign credit rating have further reinforced this trend. Most market participants view the dollar’s weakness not as a temporary phenomenon, but as a structural adjustment.


As such, a stronger won is a natural outcome as Trump-era tariff uncertainties fade and the dollar weakens. However, if US demands lead to an artificially strong won beyond equilibrium, this could trigger severe imbalances and volatility in financial markets and inflict significant damage on the real economy.


For the won to appreciate in real terms, net investment flows into the US must decline, which would require a substantial narrowing of the interest rate gap between South Korea and the US. However, the natural rate differential remains wide, and while the Federal Reserve is delaying rate cuts due to inflation concerns, the Bank of Korea is expected to ease rates to counter economic slowdown risks. Forcing a stronger won against these fundamentals would require massive market intervention and tighter policy, which would likely cause significant disruption not only in the FX market but across the broader financial system, further weakening domestic demand and potentially tipping the economy into recession.


On the other hand, with bearish dollar sentiment spreading rapidly, it is worth questioning whether expectations for further won appreciation have become excessive. The US economy continues to grow more robustly than expected, and investment opportunities remain strong amid technological innovation, such as in AI. The structural strengths of the US economy and the dollar’s status as the world’s reserve currency cannot be ignored. With many uncertainties remaining, it is difficult to predict how much further the dollar will weaken or how far the won will strengthen. Determining an appropriate exchange rate level remains challenging.


Exchange rates should be allowed to move in line with underlying economic fundamentals and market forces. As seen in Japan in 2024, large-scale market intervention may yield only temporary effects if not backed by strong fundamentals. The exchange rate is a market price that is difficult to control. Attempts to artificially influence its level tend to produce only negative side effects. Instead, such movements should prompt a reassessment of structural vulnerabilities in the Korean economy and efforts to strengthen fundamentals. Rather than reacting to short-term fluctuations, policymakers should focus on medium- to long-term equilibrium and prepare prudently for future changes.


(Lee Seung-heon, Professor at Soongsil University / Former Deputy Governor, Bank of Korea)

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