AI chip demand surges, Korean won records highest quarterly increase since 1998

The Korean won appreciated sharply against the US dollar by about 13% in the third quarter of this year, marking the largest single-quarter gain since Q4 of 1998. Hwang Kunil, widely considered the most dovish member of the Bank of Korea’s Monetary Policy Committee, has publicly warned that the recent pace of the won’s appreciation has exceeded expectations, and that the risks of exchange rate volatility must be closely monitored.

According to a Reuters report on October 29, Hwang Kunil stated, “When assessing the exchange rate, what matters is volatility and speed of change, not the absolute level. The recent pace of the won’s appreciation has been somewhat unexpected, and we are closely monitoring the volatility.” He also pointed out that once the huge current account surplus and foreign capital rebalancing effects are digested, downward pressure on the exchange rate will persist. This marks Hwang Kunil’s first public comment on monetary policy trade-offs since joining the central bank committee in February 2024.

This warning comes at a time when the Bank of Korea has just paused after two consecutive rate hikes earlier this month, keeping the benchmark rate at 3.00% but not closing the door to further tightening. While a strong won helps curb inflation, it also impacts South Korea’s export-oriented economic structure and exacerbates the difficulties faced by small and medium-sized enterprises, resulting in a monetary policy dilemma.

Won’s Quarterly Gain Hits Nearly 30-Year High; AI Chip Demand Is the Main Driver

The won appreciated against the US dollar by about 13% in the third quarter, the largest single-quarter gain since Q4 of 1998. Hwang Kunil attributed this round of appreciation mainly to the large inflows of US dollars driven by the global boom in artificial intelligence infrastructure investments—soaring demand for AI computing power has triggered a surge in purchases of specialized memory chips produced by leading Korean chipmakers SK Hynix and Samsung Electronics, thereby attracting significant dollar inflows to South Korea.

Hwang himself is a seasoned financial diplomat, having served as Korea’s Vice Minister of Finance and an Executive Director at the World Bank. He led Korea’s currency policy during Trump’s first term, enduring intense external pressure when Washington accused Seoul of deliberately running an excessively high current account surplus.

Hwang expects Korea’s current account surplus this year could be revised upward to nearly $500 billion from the central bank’s August projection of $450 billion. He also indicated that if global AI spending slows, a reduction of around $50 billion in the surplus (about one-tenth of the total) “would certainly” impact export-led growth—but he also said, “this boom cycle could last much longer.”

Export Competitiveness Under Pressure: Strong Won’s Impact Is Uneven

Although a strong currency typically helps lower import costs, Hwang Kunil made it clear that exports remain the cornerstone of Korea’s macroeconomic structure. “Exports may not hold the same status they once did, but they are still the backbone of our economic structure,” he said.

The swift appreciation of the won directly undermines the price competitiveness of Korean exports, putting pressure on manufacturing firms reliant on overseas markets. According to Hwang, despite strong export momentum, the positive effects on economic growth have not been shared evenly. The rebound in private consumption remains sluggish, with the benefits of economic prosperity highly concentrated in specific groups.

“The positive impact is limited to certain groups, while high interest rates and high prices affect everyone,” he said, “the ultimate result depends on which side is stronger.”

Small and Medium-Sized Enterprise Default Rates Rise, Real Economy Faces Asymmetric Shock

Hwang Kunil expressed clear concern over the situation faced by small and medium-sized enterprises (SMEs).

He pointed out that SME default rates continue to rise, domestic demand remains weak, and operating pressures are significant. More alarmingly, these firms are borrowing not to expand capital investment, but primarily to cover immediate operational costs such as wages and raw materials, reflecting deeper vulnerabilities in their balance sheets.

According to the report, a strong won creates asymmetric shocks in this context: while large exporters can still absorb exchange rate pressures thanks to AI chip demand, SMEs do not benefit from export-driven prosperity and instead face a double squeeze of high financing costs and tight working capital amid elevated interest rates.

Inflation Path Under Pressure: Monetary Policy Dilemma

On inflation prospects, Hwang Kunil provided a clear timeline: overall consumer price inflation is expected to approach the central bank’s 2% target by the end of the first half of 2027 and stabilize fully at target levels by late 2027 or early 2028. He emphasized, “The most important thing to monitor right now is, of course, the path of inflation.”

The appreciation of the won objectively puts downward pressure on the inflation path—lower import prices help contain costs, which could, to some extent, accelerate the return of inflation to target levels. However, this also makes the central bank’s policy decisions more complex:

On one hand, energy price risks and economic resilience justify a need for further tightening; on the other, rapid currency appreciation, pressures on SMEs, and sluggish consumer recovery act as constraints against overtightening.

The Bank of Korea kept rates unchanged at 3.00% this month, pausing after two consecutive hikes, but made it clear that further increases remain an option.

As one of the most dovish members of the committee, Hwang voted against the rate hike in August. His recent public warning regarding the pace of currency appreciation further highlights internal policy divisions within the central bank and underscores the difficult task of balancing exchange rates, inflation, and the real economy.