The crisis triggered by a vote yesterday to impeach South Korea's president is another blow for Asia's fourth-largest economy, already fighting to revive weak consumer and investor sentiment.
Parliament's move to impeach Roh Moo-hyun pounded South Korean financial markets, sending stocks down more than 5 percent at one point and the won down about 1 percent. Bond futures briefly jumped but later tumbled on worries the political turmoil could lead to bigger credit risks.
Ratings agency Fitch warned credit ratings on South Korea could be hit by the crisis, saying political uncertainty had been raised to a serious level.
Spreads on South Korean dollar bonds widened in Asia trading partly due to the political turmoil.
"Households in Korea are already anxious about their financial health because of the credit card problems. If they now see that the politics is making life even more uncertain, then they could even delay the pick-up in spending that's already pretty slow in coming around," said Tim Condon, chief economist at ING Financial Markets in Hong Kong.
Domestic consumption accounts for about half of GDP, with exports making up most of the rest.
"The government would like to think business investment would take up the role of driving domestic demand but this is not exactly the kind of news that is positive for that story," Condon said.
The passage of an unprecedented impeachment bill through the opposition-controlled parliament yesterday suspends Roh from office until the Constitutional Court rules on the vote -- a process that could take up to six months. Prime Minister Goh Kun, who was appointed by Roh, will run the country in the interim.
The economy, the world's 12th largest, has been on a hesitant recovery path supported by exports of mobile handsets, cars and semiconductor chips, but depressed consumption has held it back.
"It's clearly a negative credit event," said Brian Coulton, senior director for Asian sovereign ratings at Fitch.
"The impeachment bill having gone through raises the level of political uncertainty to a serious level where we have an outright leadership crisis with essentially a power vacuum," he said.
Korea's deputy finance minister, Kwon Tae-shin, said he believed the impact on financial markets would be short lived.
"Markets will return to normal very soon, maybe in two to three days, or on Monday at the earliest," he said.
But analysts said they expected the impeachment news to weigh on domestic consumers, already struggling with debt equal to more than 70 percent of GDP. Data shows consumers have had a pessimistic outlook for 17 months and business sentiment has been negative since the second quarter of 2002.
The impeachment bill was passed just a day after the Bank of Korea maintained a cautious but optimistic view on the economy, saying sizzling export growth would keep the economy at least until the domestic consumption fully recovers.
South Korea has already been losing out on foreign investment to China, where business costs are much lower, and amid a crisis over North Korea's suspected nuclear weapons programs.
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