[Editorial] Imported inflation

Weaker won fuels prices, constrains policy, threatens economic recovery

For years, Koreans were told that a weak won was tolerable, even useful. It boosted exports, padded earnings and bought time for growth. That paradigm has reached its limit. The brief surge toward 1,480 won per dollar last week did more than rattle markets; it signaled a fundamental erosion of the benefits once associated with a weak currency.

On paper, the recent pullback looks reassuring. After forceful government action, the won retreated to the mid-1,440 range. Yet averages present a more austere reality. The won’s annual average this year has reached 1,421.8 per dollar, surpassing the level recorded during the 1998 Asian financial crisis. What once felt like a temporary overshoot now looks structural.

The policy response has shifted accordingly. In outlining its 2026 monetary stance, the Bank of Korea made clear that interest rate cuts would no longer hinge on growth alone. Foreign exchange stability has become a primary pillar of the policy calculus. That change reflects a recognition that Korea is now confronting imported inflation amplified by an intensifying exchange rate pass-through.

The empirical evidence of this shift has already begun to manifest in domestic data. Dining out prices have risen by an average of 3.1 percent this year, a full percentage point above headline inflation. Imported food costs are the main driver, pushed higher by the weaker won.

For businesses, the old export cushion has thinned. While a cheaper currency still helps overseas pricing, the benefit is increasingly outweighed by higher costs for raw materials and intermediate goods. Profit margins are being compressed. In this environment, currency weakness acts less like a growth engine and more like a drag on consumption and investment.

The outlook for 2026 sharpens the concern. According to BOK estimates, a 10 percent depreciation in the won adds roughly 0.3 percent to consumer inflation. That arithmetic led global forecasters to revise their projections for Korea's 2026 inflation toward the 2 percent range.

The central bank’s own scenario paints an even more restrictive picture for the year ahead. If the exchange rate were to hover near 1,470 won, inflation could climb to 2.3 percent, well above the official target. That would coincide with growth of just 1.8 percent, creating a narrowing corridor for monetary policy, where the luxury of a rate cut is increasingly out of reach.

Monetary policy offers limited room to maneuver. The BOK has signaled that easing will depend not only on inflation and housing prices but also on foreign exchange stability. External forces complicate matters further. The won has increasingly moved in tandem with the yen, and several global banks expect the Japanese currency to weaken toward 160 per dollar. This correlation effectively tethers the won to external volatility, complicating domestic efforts to anchor the currency.

Government intervention can calm markets, but only briefly. The latest measures, including tax incentives to draw capital toward domestic markets, triggered a sharp short-term correction. Yet Korea’s foreign exchange reserves amount to about 22.2 percent of gross domestic product, well below Japan’s 30.6 percent. This limits how aggressively authorities can defend any specific level.

The deeper issue lies elsewhere. Persistent capital outflows, driven by the “Korea discount” and the growing appeal of US equities, continue to sap demand for the won. Intervention, while necessary to prevent panic, treats the symptom rather than the underlying malaise of capital flight.

Extricating the economy from the imported inflation trap demands more than tactical market management. The imperative for 2026 is to reinvigorate Korea’s fundamental appeal through stronger corporate governance, deeper capital markets and sustained productivity gains.

A currency that investors choose to hold remains the most durable inflation defense. One that must be constantly defended is not.