As domestic factors drive the won-dollar exchange rate up, a study by a national research institute found that import prices increase approximately 2.7 times more than when the exchange rate rises due to a strong dollar phenomenon. The impact on domestic consumer prices was also shown to reach twice the amount.
The Korea Development Institute (KDI) noted in an analysis report titled 'The impact of recent exchange rate fluctuations on prices,' presented by researchers Kim Joon-hyung and Ma Chang-seok on the 29th, that 'when the won-dollar exchange rate rises by 1 percentage point due to the strong dollar phenomenon, import prices increased by 0.25 percentage points on a cumulative basis over a year. Conversely, when the won-dollar exchange rate rises by 1 percentage point due to domestic factors, import prices increased by 0.68 percentage points over the same period.'
Since the fourth quarter of last year, the uncertainty of U.S. trade policy and domestic factors such as political instability have compounded, leading to a surge in the exchange rate and raising concerns about inflation. In response, the two researchers reported that they anticipated a difference in the impact on prices between the rise in the won-dollar exchange rate caused by a strong dollar and the rise in the won-dollar exchange rate driven by a decrease in the value of the won against global currencies, and they began their study.
The two researchers differentiated between the immediate impact (in the same quarter) of the rise in the won-dollar exchange rate on import prices and the annual cumulative impact. The analysis revealed that 'the recent rise in the exchange rate due to the strong dollar will likely exert upward pressure on consumer prices in the short term, but its persistence and impact may be more limited than that of the rate increase driven by domestic factors.'
There was also a difference in the impact on consumer prices. While the short-term effects of U.S. dollar factors and domestic factors were similar, it appeared that the impact of the won-dollar exchange rate driven by domestic factors significantly expanded over time.
When the exchange rate rises by 1 percentage point due to a strong dollar, consumer prices increase by about 0.07 percentage points, whereas when the exchange rate increases by the same amount due to domestic factors, consumer prices rise by about 0.13 percentage points. This translates to a difference of about twice as much regarding the effect on consumer price increases.
Based on the analysis of the impact of the exchange rate on prices, the two researchers projected that 'if the won-dollar exchange rate rises to 1,500 won, the inflation rate will increase by up to 0.24 percentage points compared to the first quarter after a lag, and then gradually decline.' They added that 'if the won-dollar exchange rate drops to 1,400 won, the inflation rate will rapidly slow down from the second quarter, falling by up to 0.44 percentage points compared to the first quarter in the fourth quarter.'
The report stated, 'The rise in the won-dollar exchange rate due to strong dollar factors exerts upward pressure on consumer prices in the short term, but its persistence and impact are more limited than domestic factors.' It recommended that monetary policy should be implemented, considering that the impact of the exchange rate rising due to dollar factors may be short-lived.
However, it added, 'If the upward trend in the exchange rate lasts for a long time or the influence of domestic factors expands, inflationary pressure may continue.' It emphasized that closely monitoring future exchange rate trends and the reasons for fluctuations while managing macroeconomic policies would be prudent.