South Korea Explores US Treasury's Exchange Stabilization Fund for Dollar Liquidity Amid Tariff Deal

Seoul Seeks Dollar Liquidity Through ESF

South Korea is actively exploring a currency swap agreement with the United States Treasury Department's Exchange Stabilization Fund (ESF) to bolster its dollar liquidity. This initiative comes as part of broader negotiations surrounding a significant trade deal, which includes a proposed $350 billion investment from South Korea into the U.S. economy. The primary goal is to mitigate potential foreign exchange market volatility that could arise from such a substantial capital outflow.

The discussions represent a shift in strategy for Seoul, which had initially sought an unlimited swap line with the US Federal Reserve. However, securing such an arrangement proved challenging.

Context of the Tariff Deal and Investment

The currency swap talks are intricately linked to a larger trade agreement under negotiation between South Korea and the United States. Under this proposed deal, the U.S. is expected to lower tariffs on Korean imports from 25 percent to 15 percent. In return, South Korea has committed to a $350 billion investment in U.S. industries and sectors.

South Korean officials have expressed concerns that the large-scale investment could lead to a significant depletion of its foreign exchange reserves, potentially triggering market instability reminiscent of the 1997 Asian financial crisis. The Korean won recently weakened past the 1,400-won threshold against the U.S. dollar, underscoring these anxieties.

The Role of the Exchange Stabilization Fund

The Exchange Stabilization Fund (ESF), established in 1934, serves as an emergency reserve fund of the U.S. Treasury Department. Its primary functions include foreign exchange intervention and mitigating instability across various financial sectors. The ESF holds assets in U.S. dollars, foreign currencies, and Special Drawing Rights (SDRs), and can be utilized to purchase or sell foreign currencies and provide financing to foreign governments, with explicit authorization from the Secretary of the Treasury.

A recent precedent for such an arrangement is the $20 billion swap line concluded between the U.S. Treasury and Argentina earlier this month, utilizing the ESF. South Korean policymakers are reportedly referencing this 'Argentina model' in their current negotiations.

Negotiations and Outlook

High-level delegations from both nations are engaged in ongoing discussions. US Treasury Secretary Scott Bessent recently indicated that a breakthrough in the trade agreement is expected 'within 10 days'. This timeline aligns with the upcoming APEC summit, scheduled to begin on October 27, where South Korean President Lee Jae Myung and US President Donald Trump are anticipated to meet.

While a traditional central bank-to-central bank swap with the Federal Reserve proved difficult, the proposed ESF mechanism would involve the Bank of Korea depositing won into an account under the U.S. Treasury Department's name, in exchange for dollars to fund investment projects. Other options, such as the Fed's FIMA Repo Facility and global syndicated loans via a Special Purpose Vehicle (SPV), are also under consideration to ensure dollar liquidity.