Market resistant to Europe crisis

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Market resistant to Europe crisis


Princeton University economist Shin Hyun-song, left, talks with Bank of Korea Governor Kim Choong-soo at the central bank’s international conference on monetary and macroprudential policies in downtown Seoul yesterday. [NEWSIS]

Korea’s financial industry is well-prepared to deal with the snowballing euro zone crisis and can cope with it better than most other countries, according to Shin Hyun-song, a professor of economics at Princeton University in New Jersey.

Seoul must see crises like these as golden opportunities to enhance its competiveness, he said, adding that it must expand in order to survive the global recession.

Shin was in Seoul yesterday to take part in the Bank of Korea’s international conference dubbed “Monetary and Macroprudential Policies in the Aftermath of the Crisis.”

The Korean economist said the impact of the euro zone crisis on the domestic financial market will be limited as European capital has poured out the country since late 2008.

“The sudden exodus of European banks [from the local bourse] when Lehman Brothers went bankrupt dealt the Korean market a huge blow,” Shin said.

He said the government’s implementation of macroprudential policies, such as restricting foreign exchange forward positions, also helps raise the country’s ability to mitigate the effects of external crises.

Shin noted that if Spain and Ireland had adopted similar macroprudential policies within the last four years, they could have minimized the respective crises they are now facing.

He said in the case of Spain, there were no legal bases to prevent inflows of excessive liquidity.
However, the professor said a bigger problem will emerge when the crisis spills over to the real economy.

“This is not a situation unique to Korea but one that affects the entire world, and Korea is in relatively well placed to deal with it,” Shin said.

He said industries must raise their competitiveness and secure a larger share of the global market to overcome the contracting real economy.

He also stressed that there are some positives to be taken from the euro zone crisis.

“One positive trend amid this misfortune is that, as the global economy is slowing down, crude prices have fallen and this is easing inflationary pressure,” he said, adding that household debt would also drop.

“Expanding household debt results from a fresh supply of liquidity,” he said. “Although a downsizing of the real economy is never good news, it will improve the household debt situation.”
However, he strongly opposed calls for the government to tighten its monetary policy. The Bank of Korea has frozen the key borrowing rate at 3.25 percent for the last 12 consecutive months. Shin said raising the key rate would create a larger risk by allowing excessive liquidity to flood into the country.

“The crisis in Europe happened because liquidity contracted,” said Shin. “Raising the key interest rate would only produce more [negative] side effects for the Korean market.”

He said many people misunderstand the euro zone as a fiscal crisis, whereas in reality it boils down to problem caused by the inflow and outflow of liquidity.

“Other than Greece, the problem in Europe is a crisis caused by a massive influx of capital and massive withdrawals through banks,” Shin said. “Since the euro was created, massive cross-border investments from Germany and the Netherlands flooded into Spain through banks that encouraged real estate prices in Spain and Ireland to surge.”

“The process of this injected capital being withdrawn resulted in banks becoming insolvent, which later developed into a fiscal crisis,” Shin said.

“What we are seeing now [in Europe] is similar to what Japan experienced when it suffered a decade-long recession [after excessive liquidity caused a real estate bubble to form and burst] in the 1990s,” Shin said. The Nikkei hit a record high in 1990 and real estate prices surged to a record in 1992.

Shin said a repeat of the Lehman Brothers-inspired 2008 global credit crunch was unlikely as the European Central Bank will not stand idly by and let it happen. He predicted that banks in Spain and Ireland will be restructured within a year or two.

He also predicted Greece will eventually leave the euro zone, but probably not until after the situation in Europe stabilizes.

“It may happen this weekend when it holds its election, or it could happen far in the future,” he said. “But Greece will leave as there are fundamental flaws in the system.”

He said the impact of Greece leaving the euro zone would be less of a concern if the continent were in sound health.

By Lee Ho-jeong[]

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