Central bank and finance ministry officials said falling oil prices would help the current account turn back to a surplus from October, but the balance for all of 2008 will still most likely see the first shortfall since the 1997 Asia financial crisis.
Last week the won ended down against the dollar 9.8% on the month, marking the worst month since losing 31% in December 1997 when the country was on the verge of insolvency. The won has lost more than 20 percent this year.
An analyst at CFC Seymour said the chances were growing for Asia's fourth-largest to face a new currency crisis.
"We see a high chance of a currency crisis in Korea. The central bank would try to stop it with FX intervention and emergency rate hikes, which would lead to a recession," Dariusz Kowalczyk, Hong Kong-based chief investment strategist at CFC Seymour, said in a research note.
South Korea's current account deficit in August more than doubled to a seasonally adjusted $4.82 billion, the biggest shortfall on record, from a revised $1.88 billion deficit in July, the Bank of Korea said.
South Korea produced a seasonally adjusted current account deficit of $8.43 billion in the January-August period, compared with a $6.46 billion surplus in the same year-earlier period.
Adding to the gloom, other data released showed output by South Korea's export-led industrial sector shrank for two consecutive months in July and August.
It was the first back-to-back decline in the seasonally adjusted industrial output index since November-December 2006, National Statistical Office figures showed, indicating exports were taking a hit from the cooling global economy.
The cost of protection against a default in South Korean sovereign debt surged 40-50 basis points to 210, as reflected by its five-year credit default swap, traders in Hong Kong said, meaning investors would pay $210,000 annually for protection against a default on $10 million debt.
South Korea has dismissed as misplaced concerns it may slip into a full-blown crisis, saying its foreign reserves have grown more than tenfold since the 1997 Asia financial crisis and its corporate sector has sharply reduced debts.
Analysts in Seoul said the country would probably post another annual current account deficit next year because of slowing exports, although the shortfall could narrow from this year thanks to falling costs of raw material imports.
"The central bank's projection of a $10 billion deficit for this year appears reasonable. The deficit will likely continue well into next year, at around $6 billion to $7 billion, as exports growth will be hit by a deepening global economic trough," said Lee Sang-jae, an economist at HYPERLINK "javascript:void(0);"Hyundai Securities.
He disagreed on a crisis scenario, saying the central bank was more likely to cut than raise interest rates over the coming months.
"A rate hike would only trigger further foreign capital flight out of fear of a recession. I believe a rate cut is more feasible and effective action as it should boost domestic demand, inviting foreigners back."
Bond investors also piled bets on rate cuts in South Korea, sending the December treasury bond futures up 75 ticks to 105.89 -- the biggest daily gain in eight months for the front-end contract since late January.
The Bank of Korea's biannual policy report provided few indications on future policy, although it said more of the risk from higher inflation than of the expected slowdown in economic growth. (Reuters)
