Korea's money multiplier and velocity subdued on weak spending

[Source: Bank of Korea]

Cash traffic has been bottlenecked in South Korea due to the chills in the debt market, raising alarm for a financial risk at a time when the Korean currency has been losing ground and trade revenue worsening while the monetary tightening cannot be stopped due to inflation.

The money multiplier came to 14.0 in August after hitting an all-time low of 3.6 n July, Maeil Business Newspaper found based on Bank of Korea data.

Money multiplier is the amount of money that commercial banks generate with their reserves, or a certain amount of central bank money. It is calculated by dividing M2 (money supply including cash, checking deposits, and easily-convertible near money) with money base (total amount of cash circulating in the economy or held in the central bank’s reserves). It shows the maximum limit to which the money supply is affected by changes in the amount of deposited money.

The ratio has been on a steady decline after peaking at 26 in 2008 when the financial crisis hit the global economy.

The velocity of money, calculated by dividing the nation’s economic output by its money supply, also is subdued. It stood at 0.59 in the second quarter, hardly changed from the record low of 0.58 marked in the first quarter. It measures the rate at which money is exchanged in an economy.

The country’s cash traffic has slowed despite the ample liquidity in circulation. Korea’s M2 hit a record high of 3,744.1 trillion won ($2.6 trillion) in August after crossing the 3,000 trillion won mark for the first time ever in April 2020 thanks to the massive fiscal support measures to protect the economy from the Covid-19 crisis.

Individuals and companies are restraining spending due to runaway inflation and interest rates and concerns for an economic downturn next year, said Sung Tae-yoon, economics professor at Yonsei University.

The country’s aging population and low fertility are also weakening the country’s productivity to slow the velocity of money.

Economists warn liquidity crunch to worsen.

The International Monetary Fund on Oct. 11 revised Korea’s economic growth outlook for 2023 again to 2.0 percent from the previously projected 2.1 percent.

The Korean Ministry of Economy and Finance projects the country’s economy to grow at 2.5 percent next year, Asia Development at 2.3 percent, the Organization for Economic Cooperation and Development at 2.2 percent, and the Bank of Korea at 2.1 percent.

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