(Adds context, trader comment)
By Joori Roh and Yena Park
SEOUL, June 30 (Reuters) - South Korea’s central bank said on Tuesday it will set up a U.S. dollar funding scheme for local insurers and brokerages using foreign exchange reserves, adding an ad hoc liquidity lifeline in case volatility increases again due to the COVID-19 pandemic.
The Bank of Korea (BOK) said it will offer short-term dollar loans through repurchase agreements (repos), swapping U.S. treasuries for dollar cash through auctions.
“We’re not trying to give a message to the money market that there is volatility that urgently needs to be tamed,” said a government official overseeing the currency market.
“The measure is part of layers of defence the government has been preparing. It just took some time to iron out legal and technical issues before it could be announced.”
The measure would not affect the amount of foreign exchange reserves held by South Korea, the BOK said, because the collateral it accepts for repo deals is U.S. treasuries.
In March, the central bank joined peers in advanced economies in committing to buy an unlimited amount of bonds through repo auctions for three months to calm money markets as the cost of raising U.S. dollars soared due to pandemic-induced uncertainty.
Dollar funding conditions in onshore markets have since improved, but strengthening defences can only help, a foreign exchange trader said.
“There is no dollar funding crunch in the market right now but the measure comes as a sort of reassurance to stabilise markets. There is talk of a second pandemic coming, so it wouldn’t hurt for FX authorities to add layers of defence,” the trader said.
The central bank did not elaborate on the size of the repo auctions or when they would begin. It aims to complete preparations by the end of September.
The measure will also help stabilise the foreign exchange swaps market, it said. (Reporting by Joori Roh, Yena Park, writing by Cynthia Kim; Editing by Ana Nicolaci da Costa and Christopher Cushing)