First read the exchange rate as a price
Suppose you need USD 100. At KRW 1,300 for each dollar, that costs KRW 130,000. At KRW 1,400, it costs KRW 140,000. An exchange rate is the price for swapping one currency for another. Here we quote the won price of one dollar. When that number rises, a dollar becomes more expensive and the won buys fewer dollars.
Someone who already has USD 100 can sell those dollars for more won at the second price. Someone still needing to buy USD 100 must pay more. So the same move helps an existing holder when selling and raises the cost for a future buyer. Both exchange rates are invented.
Turn the quote round and the screen shows dollars per won. Its number falls when the won price of a dollar rises. Check which currency is being priced before deciding what a rise on the chart means.
A 5% dollar deposit can finish with fewer won
Start with KRW 1,000,000 and exchange it at KRW 1,250 for each dollar. Leave the dollars in an invented bank account for one year at 5%. Interest is the extra money paid for keeping your money there; 5% a year means five parts out of every hundred over that year. At the end of the agreed year, called maturity, receive the starting money and interest in dollars, then change it all back into won.
Ignore taxes, conversion charges and early withdrawal, and assume no currency hedge. A hedge is an arrangement intended to reduce the effect of exchange-rate changes. The original amount saved is the principal. The 5% is this deposit’s rate, rather than a policy rate set by a central bank, an institution that uses rates and other tools to influence prices, borrowing and spending.
Scroll wide tables sideways. Keyboard: focus the table, then use the arrow keys.
| Step | Calculation | Amount held |
|---|---|---|
| Convert the principal | KRW 1,000,000 ÷ 1,250 | USD 800 |
| Receive a year's interest | USD 800 × 1.05 | USD 840 |
| Convert at maturity | USD 840 × KRW 1,125 | KRW 945,000 |
Assume the maturity exchange rate is KRW 1,125 per dollar. Each dollar now buys 10% fewer won than at the start. The dollar balance has grown from USD 800 to USD 840, but the final won amount is KRW 55,000 below the initial principal.
Won return = (1 + dollar deposit rate) × (final won price of a dollar ÷ initial won price of a dollar) − 1
1.05 × (1,125 ÷ 1,250) − 1 = −5.5%
Why is the loss 5.5%, rather than 5%? The weaker dollar reduces the won value of the interest as well as the original deposit. All USD 840 must be converted at the new rate. Subtracting 10% from 5% misses that effect.
If the final rate were still KRW 1,250 per dollar, USD 840 would convert to KRW 1,050,000. Under these no-cost assumptions, the break-even quote is 1,000,000 ÷ 840, or approximately KRW 1,190.48 per dollar. That is about 4.76% below the starting quote. It is a threshold for this example, not a forecast of a future exchange rate.
Taxes and the charges for exchanging currencies would change the result. A bond is a promise to repay borrowed money under stated terms; a fund pools people’s money to invest. Their dollar prices can change too, so the bank-deposit calculation does not cover them. The −5.5% is a nominal won return, meaning the change in the won amount. Whether that money buys more or less after price changes needs a separate calculation.
Money needed in dollars has a different use
If you need the dollars for a tuition bill, you may never convert them back to won. Your first question is then whether the dollar balance covers the bill. A lower won valuation does not reduce the number of dollars you can pay. You still face some uncertainty: if the bill or its due date changes, you may need to buy more dollars or sell what is left.
One way to hedge is a forward contract that fixes an exchange rate for a specified amount and future date. Its price and costs belong in the calculation; the agreed future rate need not equal today's spot rate, the rate for exchanging currencies now. The RBA's 2021 Australian dollar analysis discusses such hedging alongside cross-border investment flows. To calculate a hedged return, use those contract terms rather than the conversion assumptions in the example above.
Why interest-rate gaps can affect currency demand
To buy an account or investment priced in another currency, you may first need to buy that currency. If otherwise comparable investments are expected to pay more, people may want more of both the investments and the currency needed to buy them. They also consider the chance of losing money and how long they must wait for repayment.
Suppose country A raises its rate by 0.25 percentage points and country B by 0.50 points. A percentage point is the difference between two percentage rates. Both rates rise, but A’s rate minus B’s rate falls by 0.25 points. A’s increase alone therefore does not tell you how it compares with B. People also consider how long the difference might last.
A central-bank policy gap is not the return a depositor can collect. A product has a quoted rate, maturity and contract terms. A bond can change price, and its issuer may fail to repay the money owed. Subtracting a current overnight policy rate from a long-term bond yield compares different instruments. Even two equal one-year deposit rates would not remove the conversion risk demonstrated above.
Currency demand has other sources. An importer pays for goods, a company invests abroad, and a borrower repays a foreign-currency debt. Someone needing cash immediately may also sell investments without waiting for interest. A policy-rate gap alone cannot account for all those transactions.
A rate increase can be smaller than the market expected
Suppose investors expect a 0.50-percentage-point increase, but the central bank announces only 0.25 points. The rate has risen, yet the decision falls short of expectations. Someone who bought assets in anticipation of the larger increase may now be willing to pay less for them.
The currency could weaken after the announcement even though the central bank raised its rate. That sequence alone does not prove the decision caused the fall: other news may have arrived too. To interpret the move, check what investors expected, which currency the quote prices and the period covered by the comparison.
If the central bank does exactly what investors expected, prices may barely move at the announcement because they adjusted earlier. A chart starting a few minutes before the statement can therefore tell a different story from one starting weeks before it. Even a decision to hold can move markets if the accompanying statement changes expectations for the next meeting.
Read the Australian research example
The RBA paper by Tim Atkin, Isabel Hartstein and Jarkko Jääskelä, published on 18 March 2021, describes a model of the Australian dollar using differences in inflation-adjusted yields at several maturities, or lengths of time, and expected terms of trade. Terms of trade compare export prices with import prices. Short-term market movements sometimes diverged from the model.
A model for the Australian dollar is not a rule for predicting the won after a Korea–US rate decision.
A higher rate can come with greater risk
During market stress, investors may care more about selling an asset quickly or recovering their money than about waiting for interest. If a high rate compensates for a risk they no longer want, high interest and a falling currency can occur together. The guide to different national rates explains why inflation and monetary systems also affect the rate level.
The cause and effect can run the other way too: a currency decline can increase import-price pressure, which a central bank considers when setting policy. Seeing rates and exchange rates move in the same period does not establish how much either movement caused the other.
Read the policy instrument and dates before using a gap
The South Korea–US comparison shows a policy-rate difference in percentage points. For the US, FURRY RATES displays the federal funds target range first and uses the average of its lower and upper ends for subtraction.
A report using the US upper end can therefore show a different gap. The midpoint is a comparison calculation. It differs from the effective federal funds rate, or EFFR, a figure drawn from actual next-day borrowing transactions, and from an individual’s deposit rate.
A rate announcement and a rate table can also refer to different dates. Markets can react to a new decision before it takes effect, while a table correctly continues to show the old rate. A delayed source check is another possibility: the table may simply be missing a later decision. The date label and check status help you tell these cases apart.
For a return measured in won, write down the product's actual rate, the holding period and what each conversion costs. For a dollar bill due next year, begin with its dollar amount and due date. The policy-rate gap supplies neither set of figures. Our Korea–US gap guide and country comparison guide explain what the site's policy figures do measure.
Sources and assumptions
The cited Australian study is used only for the research example discussed above. Source: Reserve Bank of Australia 2021. RBA copyright notice; CC BY 4.0. Its findings are summarized in our wording, not applied as a won forecast. No source data, charts or photographs are reproduced; no RBA endorsement is implied.
The won–dollar deposit arithmetic and A/B policy changes are fictional. The rates, periods, quotation direction and excluded costs are stated beside each calculation. See our editorial policy.