The gap between the yields of South Korean and U.S. 10-year government bonds has been widening significantly, a trend that poses a serious challenge for the South Korean economy. As of this week, the yield difference reached an astounding 190 basis points, with many analysts predicting that this gap might soon surpass the 200 basis point threshold, given the current economic landscape and market developments. Since the middle of last year, South Korea has been mired in sluggish growth, and the economic downturn has consistently pushed bond yields downward. An unexpected interest rate cut from the Bank of Korea last November acted like a catalyst, accelerating the decline in yields. This past Tuesday, the benchmark 10-year government bond yield in South Korea closed at 2.79%, a substantial drop from the 3.71% peak recorded in April of the previous year. This stark drop illustrates the sluggish state of the South Korean bond market, especially when compared to the stable 4.685% yield on U.S. 10-year bonds during the same period. Such a significant disparity underscores the intense challenges that South Korea faces in the realm of bond markets.

Looking ahead to 2025, the outlook for the South Korean economy remains shrouded in uncertainty, lacking robust growth drivers. The Bank of Korea has reiterated its commitment to maintaining flexibility in monetary policy, signaling a willingness to pursue further rate cuts to stimulate economic recovery. Under these expectations, bond yields in South Korea are expected to continue on their downward trajectory, with the yield gap relative to the U.S. potentially widening even further. On a macroeconomic level, the ongoing slowdown in South Korean economic growth has prompted the central bank to revise its growth forecasts downwards for 2025 and 2026, anticipating rates of just 1.9% and 1.8%, respectively. If these projections hold true, South Korea would face the unprecedented situation of recording two consecutive years of growth below 2%—a phenomenon that has not occurred since the country began statistical record-keeping in 1954.

In terms of exports, South Korea, which has an economy heavily reliant on international trade, is characterized by a concentration in a few key sectors such as semiconductors and automobiles. Amid the rising tide of global trade protectionism, uncertainty in key export markets has increased significantly. This is particularly evident under the current U.S. administration’s emphasis on protectionist policies. With the dollar strengthening, the Bank of Korea has projected that export growth for the coming year will fall short of earlier estimates. This heavy dependence on an export-driven economic model renders South Korea especially vulnerable in a deteriorating external environment. Domestically, recent years have seen the South Korean government impose austerity measures in fiscal spending and financial policies that have severely undermined consumer spending power. High prices and elevated interest rates have created immense pressure on household expenditures, with small businesses and individual entrepreneurs facing ongoing hardship. Statistics from South Korea's national office indicate that average monthly household income has increased by only 0.3% year-on-year in the third quarter of this year, whereas real income—after accounting for inflation—has actually decreased by 1.7%, making the weak recovery trend in domestic demand unmistakable.

Nevertheless, the expanding yield gap between South Korean and U.S. bonds is merely one of the factors contributing to the weaknesses of the South Korean won. A recent state of emergency declared in early December brought about a financial tsunami that had a devastating impact on South Korea's political and economic stability. Recent statistics demonstrate that the won has depreciated more than 7% over the past three months, making it one of Asia's worst-performing currencies. This downward trend has not only accentuated the outflow pressure on capital from South Korea, as investors flee to seek more stable environments, but it has also severely impacted the country’s balance of international payments, driving up import costs and significantly challenging trade competitiveness. According to data from the Korea Exchange, there was a massive net sell-off of over 30 trillion won by foreign investors during the 13 trading days between December 4 and 20. Following the impeachment of the incumbent prime minister, who had been acting in presidential capacity, the won further depreciated, hitting its lowest level in 15 years.

While the widening yield gap between Korean and U.S. bonds exerts considerable negative pressure on the won, the increasing yield on U.S. Treasury bonds may begin to attract a flow of foreign capital in due course, potentially resulting in a narrowing of this gap at some point in the future. A sizable influx of funds into the U.S. market, driven by higher yields, could satisfy demand for the dollar and subsequently ease the downward pressure on the won, alleviating the currency's depreciation challenges. However, in the short term, South Korea must navigate the dual challenges posed by this widening spread and its current political crisis, placing immense demands on the decision-making capabilities of both the government and the Bank of Korea.

In summary, the expanding yield gap between South Korean and U.S. bonds undeniably exacerbates the pressure on the won. The South Korean government and the central bank must remain acutely aware of market dynamics and policy changes, swiftly adopting effective measures to stabilize the currency exchange rate and restore investor confidence. Furthermore, South Korea must recognize and address underlying structural issues within its economy, bolster economic restructuring, and foster innovative growth drivers to mitigate excessive reliance on a limited range of export products. Enhancing the economy's capacity for autonomous growth and resilience against risks will be crucial in navigating the turbulent global economic landscape and finding a stable path forward.