Korea’s current account surplus increased rapidly from 2012, but the amount of increase has narrowed since the second half of 2016 due to slowing exports. This paper seeks to make an empirical verification of the assessment that the buildup of the current account surplus over the years contributed to improving the nation’s external stability.
To be specific, we selected an emerging market economy (EME) vulnerability index and major economies’ exchange rate volatility against the US dollar as the external stability indexes and examined the effects of current account balance changes on external stability. First, a panel regression model was used to analyze the impacts that the current account balance has on the EME vulnerability index and on advanced and emerging market economies’ exchange rate volatilities. We then assessed the long-term relationship between the current account and the real effective rate and estimated the short-term effects of the shocks from current account-related news on the won/dollar exchange rate in the case of Korea. The analysis results showed that the current account has a significant impact on the EME vulnerability index. Meanwhile, an improvement in the current account balance eased exchange rate volatility in EMEs rather than in advanced economies and led to a rise in the real effective rate over the long term. Last, the positive shock of a higher-than-expected current account balance was estimated to result in a stronger won immediately after or two days after the release of the statistics.
Korea’s vulnerabilities are assessed to have been the most favorable among EMEs. Even amid financial unrest in some EMEs since the global financial crisis, Korea has witnessed continuous foreign investment flows into its market, showing no sudden exchange rate fluctuations. Judging from this paper’s empirical analysis, the solid current account surplus has contributed substantially to maintaining such external stability. If the amount of the current account surplus decreases within the expected range, the negative side effects on vulnerabilities will not be large and could act as a factor weakening upward pressure on the real currency value over the long term.