How the ‘Kimchi premium’ on crypto affects overseas remittances

The “Kimchi premium” is a term used to refer to the gap between the price of bitcoins in South Korean versus Western exchanges. This difference, which was first observed in 2016, is caused due to the high demand for a limited supply of bitcoins. The Kimchi premium is not constant, but when it appears, bitcoins can be as much as 50% more expensive in South Korea.

During such periods, arbitrageurs—investors who try to earn from such gaps in prices of financial instruments—can profit by buying bitcoins in markets such as the U.S. or Europe and selling these in South Korea.

As China was one of the largest markets for bitcoin mining before the Chinese government banned all cryptocurrency in 2017, Assistant Professor Jangyoun Lee from Incheon National University, and Taehee Oh from the Bank of Korea, examined whether Chinese arbitrageurs were able to take advantage of the Kimchi premium and to what extent.

In a study published in Finance Research Letters, the researchers analyzed confidential financial data from the Bank of Korea regarding overseas remittances to China from 1,211 foreign exchange business institutions between January 2016 to May 2021. They found that after reaching peak levels of almost 55% in January 2018, the Kimchi premium reduced.

However, it resurfaced in the first quarter of 2021, reaching a level of 20.8% on 19th May 2021. During these periods, there was also a significant increase in the number of overseas remittances—which are international, non-commercial money transfers—to China, with most of the transactions conducted by foreign exchange banks. The authors thus present a “China shock hypothesis”, which implies that sudden increase in the Kimchi premium is associated with higher overseas remittances to China.

Their data strongly supports this hypothesis. “While the first quarter of 2021 saw an average Kimchi premium of 1.4%, foreign exchange business institutions reported an average of $1.2 million per day (236 transactions) wired to China. Interestingly, in the second quarter of 2021, as the Kimchi premium soared up to 11.1% on average, this number went up to an average of $7.3 million per day (1401 transactions) wired to China—a nearly sixfold increase,” says Prof. Lee.

More specifically, a one-percentage-point increase in the Kimchi premium results in a 7.6% increase in the value of overseas remittances to China, and a 5.8% increase in their quantity. Chinese bitcoin owners can thus profit heavily from the Kimchi premium during cryptocurrency arbitrage trading.

These findings highlight the complexities of the global cryptocurrency market and how financial regulations in certain countries can impact the economies of other countries, demonstrating the need for international cryptocurrency regulation to ensure a market that protects the interests of all stakeholders.

“Bitcoins might be a panacea to replace financial institutions, a replacement for cash, and a safety net for inflation. However, virtual currencies could also have potential unforeseen consequences, which governments and financial regulatory authorities should be aware of,” says Prof. Lee. There is, however, a solution. The professor feels that international cooperation could better regulate the cryptocurrency markets and prevent another global financial crisis.

The “Kimchi premium” is a term used to refer to the gap between the price of bitcoins in South Korean versus Western exchanges. This difference, which was first observed in 2016, is caused due to the high demand for a limited supply of bitcoins. The Kimchi premium is not constant, but when it appears, bitcoins can be as much as 50% more expensive in South Korea.

During such periods, arbitrageurs—investors who try to earn from such gaps in prices of financial instruments—can profit by buying bitcoins in markets such as the U.S. or Europe and selling these in South Korea.

As China was one of the largest markets for bitcoin mining before the Chinese government banned all cryptocurrency in 2017, Assistant Professor Jangyoun Lee from Incheon National University, and Taehee Oh from the Bank of Korea, examined whether Chinese arbitrageurs were able to take advantage of the Kimchi premium and to what extent.

In a study published in Finance Research Letters, the researchers analyzed confidential financial data from the Bank of Korea regarding overseas remittances to China from 1,211 foreign exchange business institutions between January 2016 to May 2021. They found that after reaching peak levels of almost 55% in January 2018, the Kimchi premium reduced.

However, it resurfaced in the first quarter of 2021, reaching a level of 20.8% on 19th May 2021. During these periods, there was also a significant increase in the number of overseas remittances—which are international, non-commercial money transfers—to China, with most of the transactions conducted by foreign exchange banks. The authors thus present a “China shock hypothesis”, which implies that sudden increase in the Kimchi premium is associated with higher overseas remittances to China.

Their data strongly supports this hypothesis. “While the first quarter of 2021 saw an average Kimchi premium of 1.4%, foreign exchange business institutions reported an average of $1.2 million per day (236 transactions) wired to China. Interestingly, in the second quarter of 2021, as the Kimchi premium soared up to 11.1% on average, this number went up to an average of $7.3 million per day (1401 transactions) wired to China—a nearly sixfold increase,” says Prof. Lee.

More specifically, a one-percentage-point increase in the Kimchi premium results in a 7.6% increase in the value of overseas remittances to China, and a 5.8% increase in their quantity. Chinese bitcoin owners can thus profit heavily from the Kimchi premium during cryptocurrency arbitrage trading.

These findings highlight the complexities of the global cryptocurrency market and how financial regulations in certain countries can impact the economies of other countries, demonstrating the need for international cryptocurrency regulation to ensure a market that protects the interests of all stakeholders.

“Bitcoins might be a panacea to replace financial institutions, a replacement for cash, and a safety net for inflation. However, virtual currencies could also have potential unforeseen consequences, which governments and financial regulatory authorities should be aware of,” says Prof. Lee. There is, however, a solution. The professor feels that international cooperation could better regulate the cryptocurrency markets and prevent another global financial crisis.