For at least three decades, there has been a build-up of global imbalances in trade, capital and the distribution of wealth within countries. There is a strong argument that the origin of these imbalances was a set of macro policies designed to support exporters in emerging economies, predominantly in Asia. These policies saw consumers subsidise manufacturers via currencies that were kept too weak, fiscal policies that favoured export led industrialisation over social spending and monetary policies that engendered financial repression.
The low social safety net and expensive imported goods meant consumers over-saved, while exporting companies were incentivised to overproduce, leading to huge current account surpluses. Traditional economic theory says that these surpluses shouldn’t persist: when a country exports a good, the capital inflow should lead to currency appreciation. However, countries didn’t want to see their export success disappear so actively maintained weak currencies through low interest rates, causing investors to look abroad for higher returns. Instead, companies kept their export proceeds in, predominantly, US dollars. The deep, liquid US capital markets absorbed these US dollars and US asset prices were driven higher, along with the currency.
The outperformance of the US stock market and suppressed bond yields meant that the US over-consumed and under-saved. Cheap debt servicing costs made it easy for households and the government to spend (the baton has passed between the two over the last 30 years), driving up debt as a percentage of GDP. The owners of capital have disproportionally benefitted. However, these imbalances can’t persist. Eventually, debt service costs become too high, or those who feel they have lost out vote for political change.
We believe we’ve hit these limits, and this is why the US dollar smirk has been the cornerstone of our process. The US administration wants more balanced trade and, if successful, the process described above goes into reverse. US assets – including bonds – underperform, the US consumes less, and the US dollar falls. If the US administration encourages foreign repatriation, advertently or inadvertently, due to comments around “user fees” or the inclusion of Section 899 in the draft of the One Big, Beautiful Bill Act, then the reversal could be sharp. Discouraging capital inflows while running large twin deficits is a risky tactic.
Asia’s dollar challenge
If the process is quicker than markets expect, who is left holding the trillions of underhedged US dollar assets? In our view, it’s predominantly Asia that should be questioning the level of its dollar assets and at minimum should seek to hedge these back into their local currency.
Amid heightened US Treasury scrutiny over beggar-thy-neighbour policies, official reserve buildup in the post-Asian crisis period has been far superseded by alternative investment channels, particularly among yield-seeking life insurance sectors, pension funds, and retail investors. Based on US Treasury International Capital data, investors across emerging markets (EM) Asia (excluding China) hold USD 3.5tn in US fixed income and equities as of March 2025, with Singapore, Taiwan and Korea in the biggest accumulators over the past five years.
Following an extended cycle of record-wide interest rate differential to the USD and low macro volatility fuelling carry-enhancing behaviour, net US exposure was magnified by declining foreign exchange (FX) hedging to decade lows across major surplus countries in Asia. Real macro sectors have joined in too by maximising USD deposits and reducing conversion of export proceeds.
With the USD tide turning and its traditional negative correlation to global risk appetite structurally fraying, we expect EM Asia to continue experiencing the more acute appreciation pressures in the EMFX universe. Counter-intuitive to the prevailing narrative at the start of tariff escalation, the regional trade ‘bellwethers’ and China-proxies Taiwanese dollar (TWD) and Korean won (KRW) are turning into capital account wildcards.
The opportunity in the Taiwanese dollar
Even after a 19-standard deviation revaluation move recorded in May, we think the TWD remains the standout play for broad reallocation of global capital flows and US policy uncertainty. The consistency and magnitude of Taiwan’s external surpluses (cumulative USD 1.2tn since 2009, consistently above 10% of Taiwan’s GDP since 2013) dwarfs any of its regional peers, confirming empirically the symptoms of a systematically undervalued local currency.
Remarkably, TWD weakened through waves of structural shocks led by the AI chips export boom, with the currency currently below 2022 levels on a trade weighted basis, adjusting for inflation. This left exporters distinctively USD-rich but also vulnerable to a shift in US dollar directionality. The Central Bank of the Republic of China’s (CBC) volatility-suppressing FX management activities remain a key anchor, but their magnitude is expectedly coming under intensified scrutiny amid bilateral US trade talks.
Taiwan’s USD 1.1tn life insurance sector’s large stock of (under-hedged) overseas assets (USD 750bn, mostly in USD denominated assets) remains a tail risk for amplifying the scope for TWD gains, be it through the marginal need for hedging FX risk in line with regulatory requirements or through discretionary portfolio repatriations.
Even after a recent rise in onshore FX products, the sector-wide liabilities (insurance policies) remain primarily denominated in TWD. Although they are seen as complementary to the limited scope of social safety nets and social spending, voluntary policy surrenders or early redemptions pose additional risks for accelerated repatriations, particularly compared to Western pensions system.
The shifting dynamics in Korea’s FX exposure
Korea transitioned to a net international creditor position more recently, in 2013. Although it shares broad-brush elements of Taiwan’s local net USD exposure, external surpluses have been relatively lower, and – importantly – FX mismatches much less pervasive or immediately consequential for financial stability.
Relevant for the US Treasury’s criteria of identifying currency misalignment, Korea has run average current account surpluses in excess of 3% of GDP for most of the past decade (and lately surging to 5% annualised). Exporter proceeds conversions remain anecdotally low, although recent FX deposit trends suggest some tentative discomfort with the trajectory of the USD among corporates.
The single largest foreign investment vehicle has been the Korean National Pension Service (NPS), with foreign allocations (mostly equities) strategically rising to 57% out of USD 850bn and FX hedging running persistently between 0%-4% since 2018 to minimise costs1. Although long term targets signal scope for rising foreign asset allocations, FX exposure remains well above industry averages and prompt higher usage of tactical hedges (up to 10%).
The retail sector has joined in since 2018 in ramping up allocations to unhedged US equities, amassing about USD 120bn in fully discretionary investment products. The bulk of these could plausibly become vulnerable to changing views on expected US yields, US growth exceptionalism as well as more constructive expectations about the domestic political backdrop. In fact, the overall size of the domestic market (both fixed income and equities) could better accommodate marginal increases in home bias.
Asian currencies are contributing to dollar overvaluation
Even after accounting for a sizeable reprieve in spot performance year-to-date, TWD and KRW remain the largest regional contributor to USD overvaluation, with JPY still the standout in the G10 space. Using on our proprietary purchasing power parity-adjusted metrics, we estimate that TWD and KRW are 15%-20%2 below their real bilateral fair values, particularly stark considering shared AI-led improvements in export prices.