Korea should brace for increased capital-flow volatility in the stock and bond markets stemming from the possibility of the U.S. and other advanced economies exiting monetary stimulus in the near future.

There would be tumbles on global benchmark equities as seen with Japan’s Nikkei 225 index that fell more than 7 percent, Bank of Korea Gov. Kim Choong-soo warned investment bankers in a meeting on Friday.

Japan’s benchmark stock index suffered its highest drop in 13 years on Thursday due to a variety of factors such as the possibility of the U.S. Fed winding down its monetary easing, China’s manufacturing slowdown and an increase in yields on Japanese government bonds.

Federal Reserve Chairman Ben Bernanke told Congress that the central bank plans to continue its quantitative easing as long as the country’s unemployment continues to show historic highs, while warning that U.S. budget cuts will drag down its economic recovery.

“A premature tightening of monetary policy could lead interest rates to rise temporarily but would also carry a substantial risk of slowing or ending the economic recovery and causing inflation to fall further,” the chairman said.

However, the Fed’s recent minutes showed some members of its committee suggesting a slowdown in its bond-buying program, possibly in June, as the world’s largest economy heads for recovery.

Also, the Fed chairman was not sure whether the central bank could pull out of its monetary easing before September, saying that it would depend on the data.

Korea and Asian emerging markets would be hit by a series of financial shocks from this possible move from the U.S., as an exit of its monetary easing would drive other advanced economies that implemented unorthodox policies such as the eurozone to soon follow suit, the BOK governor said.

In a meeting with a group of business editors of the nation’s major news organizations on Friday, Deputy Prime Minister and Finance Minister Hyun Oh-seok said a signal on change in monetary easing policies could come.

Speculation is growing that a bubble has formed in the U.S. bond market and will burst once an exit strategy is in place, which would lead to a rise in interest rates and a fall in bond prices, thus generating losses for financial institutions holding fixed-income securities.

Kim warned bankers earlier this potential risk against an increase in the U.S. benchmark rate.

Japan is also expected to slow the pace of its measures of printing and pumping money into the market, given that the yen has weakened to its pre-2008 global financial crisis level of over 100 yen against the U.S. dollar, and that its economy has improved on the back of export growth, said Clemens Kang, an analyst at Woori Investment & Securities.

The world’s third-largest economy would not want to see side effects from the yen’s continuing weakness, which could adversely affect domestic consumption should consumer prices increase beyond target expectations.

A weak currency may boost exports, but at the same time, it will fuel inflation and burden consumers.

Analysts projected that Japan could pull back from its monetary easing once the yen reaches 105 yen against the dollar, and focus on decreasing its debt and improving consumption as it would need to increase its tax revenue to sustain the economy.

By Park Hyong-ki (hkp@heraldcorp.com)