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Monday, 15 June 2015

KorEconomics 101 (한국경제학개론), Part XI: The Bank of Korea - Issuer of Korean Republic Won (KRW)

The Bank of Korea (Abbreviation: BOK; Hangul/Hanja/Romanization: 한국은행/韓國銀行/Hankook Eunhaeng) is a central bank of Korean Republic and the main issuer of Korean Republic Won (KRW). It was established thirteen days before Korean War occurred (June 12th 1950) with a capital of 1.5 billion won. However, the amendment of the Bank of Korea Act (1962) made the Bank a special juridical person having no capital. The central bank is located at 39 Namdaemun Avenue, Namdaemunno 3-ga 110-beonji, Seoul Jung-gu.

The primary purpose of the Bank, as prescribed by the Act, is the pursuit of price stability. The Bank sets a price stability target in consultation with the Government and draws up and publishes an operational plan including it for monetary policy. To this end, the Bank performs the typical functions of a central bank: issuing banknotes and coins, formulating and implementing monetary and credit policy, serving as the bankers' bank and the government's bank. In addition, the Bank of Korea undertakes the operation and oversight of the payment and settlement systems, and manages the nation's foreign exchange reserves. It also conducts supervisory functions for financial institutions as stipulated in the Bank of Korea Act.

The Bank of Korea has the exclusive right to issue banknotes and coins within Korea. Their dimensions, designs and denominations are determined by the Monetary Policy Committee upon the Government’s approval. The banknotes and coins issued thus have the status of legal tender within the country for all transactions, both public and private, without limitation. It is not required to maintain any prescribed minimum ratio of gold or foreign exchange against its banknotes and coins issued, nor is any maximum limit imposed on their issuance. The issue of banknotes and coins depends ultimately on decisions made by the Bank in line with its monetary policy.

There are currently four different denominations of banknotes in circulation: 1,000-won (Observe: Toegye Yi Hwang), 5,000-won (Yulgok Yi I), 10,000-won (King Sejong the Great) and 50,000-won (Shin Saimdang); and six of coins: 1-won, 5-won, 10-won, 50-won, 100-won and 500-won. The Bank issued redesigned 5,000-won banknotes in January 2006, and redesigned 1,000-won and 10,000-won banknotes in January 2007. These redesigned banknotes incorporate sophisticated features to deter counterfeiting. The Bank in addition put 50,000-won banknotes into circulation from 23 June 2009, so as to reduce the economic inefficiency and inconvenience arising from the previous denomination structure.

The most important mission of the Bank of Korea is its formulation and implementation of monetary policy. This involves controlling the supply and the cost of money so that the economy may grow in a sound manner on the basis of price stability. To this end, the Bank conducts its monetary policy with an emphasis on price stability, while also taking into account such matters as economic growth and financial system stability.

The Bank introduced an inflation targeting regime in 1998, changing the operational framework for its monetary policy from a monetary aggregate-oriented to an interest rate-oriented one in which the call rate (the uncollateralized overnight rate) constituted its policy rate and operating target. The Bank then reformed and realigned its monetary policy framework again in March 2008—through measures including a change in the policy rate from the call rate target to the Bank of Korea Base Rate, improvement of the reserve requirement system, the regularization of open market operations, and the introduction of standing facilities.

Inflation targeting can be explained in detail by breaking it down into its three main elements: the target measure, the target level and the target horizon. The 12-month rate of change in the Consumer Price Index (CPI) currently serves as the target measure in Korea. The present target level over a target horizon of three years(2013 to 2015) is the range between 2.5 and 3.5 percent. The allowance of this one percentage point band around the midpoint of the target takes into account the various uncertainties surrounding the economy, while the setting of a medium term target is done in view of the considerable time lag before monetary policy works through to prices. The Bank determines the inflation target in consultation with the government.It publishes a comprehensive report on inflation twice a year, to explain price developments, future inflation forecasts and conditions, the monetary policy stance and so on.

The Bank of Korea also has a mandate for maintaining and enhancing financial system stability. To achieve this, the Bank conducts comprehensive monitoring of economic conditions domestically and abroad, of financial market stability, and of the soundness of the financial system. It also develops and makes full use of a wide range of indicators to detect, assess and provide early warning of various risks present in the financial system in a timely fashion. Based upon this, the Bank prepares and releases a half-yearly Financial Stability Report, analyzing potential risks in the financial system and their effects while providing a comprehensive assessment of the system as a whole.

Since the sound management of financial institutions is vital for proper functioning of the financial system, the Bank makes constant use of information from financial institutions, to monitor their business operations and financial conditions, and as necessary conducts on-site examinations of them jointly with the Financial Supervisory Service to determine their soundness. The focus of these examinations is on the facilitation of macroprudential policy, for example, detecting and responding in advance to systemic risks that can threaten the financial system as a whole, as well as on monitoring the soundness of individual financial institutions.

The bank holds and manages the nation’s foreign reserves appropriately to ensure that they can serve as a safeguard in cases of emergency. It invests the reserves mainly in safe and liquid foreign assets, and strives to improve their profitability insofar as this does not detract from their safety. It also makes efforts to stabilize the FX market, in consultation with the Government. While it allows the exchange rate to be freely determined by economic fundamentals, as well as the supply of and demand for foreign exchange in the market, the Bank can implement smoothing operations if needed, to calm disorder in the market and mitigate any rapid short-term changes in exchange rates.

The Bank in addition acts as an agent for the Government in managing the Foreign Exchange Stabilization Fund, which was founded in 1967 with the objective of stabilizing the foreign exchange market. It represents the Government in all dealings and transactions with international financial institutions of which the Republic of Korea is a member.

Korean Republic Won Denominations from 1 won to 50,000 won.