Currency slide deepens inflation, growth concerns

During my posting in Paris, the local district office assessed my earned income each year on a 10-tier scale. The highest earners were placed in Tier 10 and the lowest in Tier 1, with school meal fees for public schools set accordingly. Those who earned more paid more, and those who earned less paid less.

Each year, my salary in won was converted into euros to determine my tier. In the final year of my assignment, the result came as a shock. My ranking had fallen three levels compared with three years earlier. My income had not changed, but the Korean won had weakened sharply against the euro. The exchange rate rose from the 1,360 range to well above 1,600 over three years and has now exceeded 1,750. In practical terms, my purchasing power had declined even though my pay remained the same.

A weak currency was once seen as an advantage, boosting export competitiveness by lowering prices in dollar terms. That dynamic has shifted. Higher import costs for raw materials are now driving up production expenses, placing a heavier burden on the economy.

Last year, South Korea’s gross national income per capita fell behind Japan and Taiwan for the first time in three years. Slower growth contributed, but the weaker currency was a key factor. Many households now worry that the economy’s value is eroding even without a drop in income.

Shin Hyun-song, nominee for Bank of Korea governor, said March 31 that there was “no major cause for concern” over the exchange rate. His remarks suggest the situation does not warrant alarm. Still, a weaker currency steadily chips away at household finances. It raises import prices and ultimately feeds into consumer inflation. The speed of the decline is an added concern. The won has dropped more than 6 percent in a month following the outbreak of conflict in the Middle East, one of the steepest declines among major currencies.

The government has cited retail investors shifting funds into U.S. equities as one factor behind the rapid depreciation. Other forces are also at play. Higher interest rates in the United States have encouraged capital outflows in search of better returns. Concerns over South Korea’s export-dependent economy, amid U.S. tariff pressure, have added to the strain.

The pace of the currency’s decline could pose further challenges in the months ahead. Starting in July, South Korea’s foreign exchange market will operate around the clock, increasing trading activity. While broader access may help ease volatility over time, it also raises the risk of sharp moves during off-hours. A special law aimed at promoting investment in the United States, set to take effect around June, could further accelerate dollar outflows.

Policy options remain limited. Raising interest rates is difficult given high household debt and concerns about stagflation, a combination of weak growth and rising prices. At the same time, the government is preparing a supplementary budget that will inject cash equivalent to about 40 percent of last year’s consumption coupon program, totaling 12.1709 trillion won. The measure targets the bottom 70 percent of income earners, extending beyond energy-vulnerable households to include much of the middle class.

Economic stimulus tends to deliver immediate benefits, with side effects emerging later. The pattern is often compared to drinking alcohol, where the initial lift is followed by a hangover. The analogy was drawn by Nobel laureate economist Milton Friedman, who addressed stagflation in the 1960s. Before those aftereffects take hold, policymakers need to craft more vigilant and carefully calibrated responses to rising prices and a weakening currency.