China Ends Swap Lines with South Korea: A Dog That Doesn’t Bark

China has declined to renew the $56 currency swap line with
South Korea.
  The swap line has been
in place for eight years. Initially, it was launched at $26 bln in 2009 and
expanded in 2011.  It has been extended twice since then.  
The swap line from China was South Korea’s
largest swap line, accounting for almost half of all of its official currency
  Just two days ago, news wires
were reporting that officials were optimistic that the swap line would be
However, financial statecraft is an integral
part of China’s foreign policy. 
often tries to use its financial and economic strength to reward its friends
and punish its enemies.  It offered assistance to countries that dropped
recognition of Taiwan.  It canceled the currency swap line with Japan in
2015 when Japan nationalized a couple of small islands for which it also has a
Refusing to renew the currency swap with
South Korea appears to be largely a protest over the deployment of the missile
defense system.
  Ostensibly the
defense system is meant to offer protection from North Korea, but Chinese
officials are well aware that the missile defense can be used against it as
well.  Also, there appears to be some suspicion that the advanced radar
that is needed for the missile defense could also be used for spying
China has put into place more than two dozen
currency swap arrangements
.  In part,
China was motivated by the US swap lines during the Great Financial
Crisis.  Some Chinese officials thought that the swap lines the US had
arranged were part of the new global financial architecture.  Officials
also saw the swap lines as a way to promote the yuan for international
Chinese officials were mistaken.  The currency swap lines that the Fed offered were
not part of a new architecture.  It was a response to the old architecture
in which the dollar was a significant funding currency.   One
important aspect of the policy response to the crisis that is under-appreciated
is that there was no coordinated intervention in the foreign exchange
market.  Policymakers seemed to realize the problem was not the price of
the dollar (or exchange rates more broadly) but the access to dollar funding as
the US commercial paper market collapsed, and interbank activity (counterparty
trust) ebbed.  
The fact that China’s swap lines have barely
been used reflects the fact that the yuan is not a funding currency now. 
 It may be in the future.  The yuan swap lines
are largely about confidence and appearances, and not so much about
Do not shed tears for South Korea.  It does not need the swap lines.  It has
accumulated nearly $385 bln in reserves.  Proportionately, it is roughly
the same size as China’s, a bit more than 25% of GDP.  South Korea no longer
has a swap line with the US either.  It does have a few bilateral swap
lines that amount to about $22.5 bln.  There is also the Chiang Mia
Initiative that followed the 1997-1998 Asian financial crisis that is a
multilateral effort.  Under that agreement, South Korea can access another
$38.5 bln. 
At the same time, China’s anger and
frustration toward South Korea should not be underestimated.  China’s
boycott of Korean goods due to the missile defense is palpable and more
significant than the end of the swap lines. 
 The boycott, reportedly, has hit consumer goods
producers, including autos, supermarkets, and tourism.  Auto sales by
Hyundai and Kia in China, their biggest market, halved this year.  Some
observers see this as partly a function of Chinese mercantilist
practices.  The idea is that China wants foreign car producers to buy
Chinese parts instead of importing them.  It may be difficult to separate
the two strains, but this particular issue seems political. 
South Korea has responded by offering
assistance to companies being hurt by China’s boycott. 
 The actions range from tax deferrals and cheap loans
to new tourist initiatives.  Note that South Korea added new launchers to
its missile defense system last month.  

South Korea’s Kospi is among the best
performers this year, up more than 21%, barely trailing the MSCI Asia Pacific
Index, which has gained a little more than 22% year-to-date.
  Foreign investors have returned to South Korea
stocks.  Korean markets were closed for an extended holiday, but foreign
investors have bought $1.4 bln worth of Korean shares this month, which is more
than three times more than foreigners purchased of Taiwan shares. 
Year-to-date, foreign investors have bought $7.65 bln of Korean shares and
$7.27 bln Taiwanese shares. The South Korean won has appreciated 6.4% against
the dollar this year, which is about one percentage points more than the yuan
and two percentage points more than the yen.  

The talks between China and South Korea
  However, it does not seem
reasonable to expect the swap line to be renewed any time soon.  And the
absence of the swap line has no real impact on South Korea.  

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