TCS Daily


Redenominating the Won is No Big Deal

By Christopher Lingle - September 15, 2004 12:00 AM

Several options are being considered by the South Korean central bank relating to the local currency that includes changing the denominations or issuing higher-value banknotes. This would involve introducing either a note worth 100,000 Won or to reduce the denomination by a factor of perhaps 1,000.

Much like the Japanese currency, Korean banknotes have many digits but are of little value. Presently, the largest denomination is 10,000 Won that is worth less than $10. Such large denominations reflect a substantial rise in price levels over the past 30 years. Growth-oriented economic policies helped spark super-charged growth rate but also brought chronic inflationary pressures, mostly during the 1970s.

Claims by critics that such changes might encourage corruption or fuel inflation or allow stealth price increases are unfounded. While it is true that larger notes might facilitate the making of large cash bribes, there is ample evidence that the current system has done little to curb or inhibit corruption at all levels.

And it is not possible that a one-off change in the configuration of a currency can result in sustained price increases. For that to occur there would have to be a continued rise in the rate of growth of the money supply.

Speculative purchases of property or other assets much be accompanied by increases in the growth of the money supply and credit. Otherwise, the price of other things would have to be depressed to offset new spending in other sectors of the economy. In all events, history offers no evidence that retailers can successfully exploit re-denomination as a mechanism to fool consumers with price increases.

Suggestions that consumers would be spooked into a new and persistent spiral of spending or would panic by reduced numerical rendering of their savings presume that people are morons. But it is clear that Koreans are unlikely to be taken for fools nor is there evidence to suggest insufficient understanding of numbers. Indeed, numerate skills are a strong point of the local population.

In sum, such a change can have no impact on the overall condition of the economy. And Korea's financial markets are unlikely to be affected by such a trivial change.

Therefore, it should not be considered either a drastic or a radical reform measure. There are many modern precedents, including the much more complicated change of the British currency to units based upon a base 10 numeration.

All that would be required in Korea is a highly visible campaign explaining the nature of the change along with a specified deadline for redeeming the old notes. With modern communication media, this should be no problem.

Indeed, these proposed steps should not really be considered as "currency reform" since that phrase is more appropriately applied to changes in the nature of the exchange rate regime. For example, this might involve the de-linking of the Chinese currency from the US dollar or changing its peg to a wider basket of currencies or commodities. The timid steps being discussed are nothing like the formation of the euro or the decision to implement a currency board or to dollarize and economy.

So, it seems that there should be little need to debate something that would lead to such small negative consequence. But if moves are made to tinker with the face value of Won-denominated banknotes, it is less helpful to introduce higher-dominated ones.

It would be better to lop a trio of zeros. This is because economists generally believe that reducing transactions costs leads to more turnover and contributes to higher economic growth. In this case, reducing the number of digits used in the numeraire denoting the value of transfers would reduce transactions costs, even if only slightly.

It is hard to understand why there is so much hesitancy to follow through with changing the local currency. One could surmise that an elitist sense of superiority among some policy makers reveals they have little faith in the reasoning power of ordinary Korean citizens.

Christopher Lingle is Visiting Professor of Economics at Universidad Francisco MarroquĂ­n in Guatemala and Global Strategist for eConoLytics.


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