Bybit Learn
Bybit Learn
3 de ago de 2022

Kimchi Premium: How Traders Exploit Markets For Profits

The term “Kimchi premium” describes the price differences between cryptocurrency exchanges in South Korea and those in the global markets. These Kimchi premiums remain high, making South Korea a significant player in the crypto marketplace. However, government officials there have looked for ways to discourage foreign investors from exploiting the premiums, in order to protect the integrity of their markets.

What Is Kimchi Premium?

Kimchi premium is the price gap that occurs in South Korean crypto exchanges compared to foreign crypto exchanges. This difference is caused by a lack of high-return investment options for South Korean investors.

How Does the Kimchi Premium Work?

Kimchi premiums occurring on South Korean cryptocurrency exchanges can make certain coins' valuations higher than those on other crypto exchanges. For many, the Kimchi premium creates an advantage for traders located in South Korea. However, there are many points to consider. For example, to make a profit, traders there must purchase a token such as Bitcoin on a foreign exchange. After that, the investor can sell the coins for a higher price on a South Korean exchange like Bithumb or Upbit.

The Kimchi premium is driven by the restrictive capital controls in South Korea. Many regulations reduce capital flowing into and out of the country. The South Korean government enacted these restrictions to prevent foreign influence on their domestic investments.

Over the years, the government has tightened these capital controls to ensure economic stability for South Korean markets. This has made it difficult for exchanges to move large amounts of cryptocurrencies, such as Bitcoin, and the capital controls limit the ability of South Koreans to buy cryptocurrencies in foreign markets. For this reason, South Korean exchanges are able to sell their limited cryptocurrencies at high rates to meet their country's demand.

How is the Kimchi premium price differential mathematically represented? As an example, if one Bitcoin in the United States is listed at $10,000, but the price is $18,000 in South Korea, the Kimchi premium is represented at 80%. With that, a Bitcoin purchased on the U.S. market can be sold on the Korean market for an 80% profit, resulting in an $8,000 gain using the example from above.

Does the Kimchi Premium Only Apply to Bitcoin?

The Kimchi premium isn’t exclusive to Bitcoin; it can be found on other cryptocurrencies as well, and is often viewed as a reliable indicator of demand for Bitcoin. However, other factors can affect the price of Bitcoin. As a result, the Kimchi premium can present a false narrative about a crypto's value. When buying any cryptocurrency, investors shouldn’t base their decisions on one factor alone, such as the Kimchi premium.

Why are there discrepancies in crypto valuations on South Korean exchanges over those in the rest of the world? While many of these assets and commodities are regulated through centralized institutions, cryptocurrency is decentralized. As blockchain technology continues to evolve, many more crypto tokens will emerge. Foreign exchanges can struggle to keep up with a large amount of crypto trading activity.

For that reason, the Kimchi premium was created. Exploiting these differences in valuation isn’t exclusive to the world of cryptocurrency. In fact, slight differences in valuation do appear across multiple foreign exchanges. Traders often notice and gain profit from these discrepancies. The process of trading between several exchanges for profit from valuation differences is called arbitrage.

Why Does the Kimchi Premium Exist?

Capital controls have been one of the reasons why the Kimchi premium has existed for many years. Following the global financial crisis of 2008, the South Korean government implemented stringent capital controls in 2010. These regulations were designed to prevent foreign investors from using the Korean won for short-term foreign debt, which caused problems across many European markets. Such preemptive measures reduced capital investment volatility, which could pose a systemic risk to South Korean markets.

History of Kimchi Premium

At the start of 2017, South Korea's Bitcoin prices didn’t vary from those of foreign markets. However, the price disparity became apparent toward the end of 2018, reaching a high of 30%. The Kimchi premium remained bullish during the first quarter of the following year, with cryptocurrency prices reaching levels of more than 50% over foreign markets. Those discrepancies drove investors' demands and increased the country’s cryptocurrency prices.

The popularity of cryptocurrencies has been tied to potential security issues and threats from neighboring North Korea. Often, Bitcoin and other cryptocurrencies are favored by those in regions that face geopolitical risks or uncertainty. 

Kimchi premiums are also linked to South Koreans' interest in online gambling and technology. During bull markets, South Korean investors experience fear of missing out (FOMO), pushing them to invest in cryptocurrencies.

The rise in the Kimchi premium has also been an indicator of increased South Korean Bitcoin retail investment In addition, South Korea has issued cryptocurrencies, known as Kimchi coins, which have low liquidity and small market gains. Over the years, many of these tokens have been delisted on the major South Korean exchanges. Many of the markets have moved away from these coins in order to be in line with new regulations.

Despite these high premiums, many investors in South Korea are investing in cryptocurrency and will pay higher fees for the Kimchi premium.

Kimchi Premium Arbitrage Trading

As mentioned, investors can take advantage of the differences in market prices with arbitrage trading. With the Kimchi premium, cryptocurrency traders purchase BTC on foreign exchanges and then sell it on the South Korean market for higher profits. The phenomenon of arbitrage trading is often short-lived, since many investors take advantage of price differences to the point that they’re no longer profitable.

Arbitrage can help to relieve any price difference and market inefficiencies on an exchange. Generally, arbitrage involves buying crypto coins from a non-South Korean exchange and selling them back on the South Korean one. However, the arbitrage process in South Korea isn’t so straightforward. South Korean traders often need to exchange their South Korean currency for a different country's currency to buy crypto on an international exchange. In many cases, this exchange process can take time. It can also be risky, since crypto assets are volatile and their prices frequently change. Any dramatic price changes in the market may harm such arbitrage efforts before the transaction can be completed.

Since South Korea has enacted many capital controls over the years, exchanging money on the international market can expose South Korean traders to taxes. There are also yearly limits on international transactions and other expenses associated with arbitrage. In South Korea, BTC is considered a commodity. For that reason, South Korean traders must pay customs when they purchase crypto on the international market.

Crackdown on the Kimchi Premium

Before the Kimchi premium hit its peak in 2018, South Koreans could only send up to $3,000 in a single transfer, or $20,000 per year with a single financial institution. South Korea's government has recently launched new investigations into the Kimchi premium. Previously, it was difficult for many foreigners to set up their own accounts with South Korean exchanges. They would need a South Korean-based phone number and bank account. Those rules made it impossible to take advantage of arbitrage simply by visiting the country.

Restrictions on cryptocurrencies over the years have contributed to rapid growth in the Kimchi premium. In April 2021, a prominent South Korean exchange prevented withdrawals on new accounts. A few days earlier, some South Korean banks had stopped money transfers to international crypto companies. As a result, the Kimchi premium rose to 18%.

In September 2021, the government began to introduce new money laundering restrictions, which smaller exchanges could not implement. Upbit is the largest exchange in South Korea, followed by Bithumb, Coinone and Korbit. Together, these exchanges are responsible for 90% of all the crypto in the country. Each exchange has complied with the stringent laws of the South Korean government.

The government is also launching investigations into illegal foreign transactions involving the Korean won. Foreign investors gained a large share of the money supply by trading Kimchi premiums. Woori Bank and Shinhan Bank are the major companies being investigated by the Financial Supervisory Service. The companies have allegedly exploited the Kimchi premium on Bitcoin and transferred the profits abroad, mainly to China. The investigation is looking at the foreign exchange transactions at Shinhan Bank and Woori Bank, estimated at over 2 trillion Korean won. These two banks have also been accused of illegal profit margin shares involving Bitcoin.

South Korean Regulations

With South Korean regulations, taking advantage of the Kimchi premium is almost impossible outside of the country. There are many strict restrictions in place to discourage these trades.

Domestic Restrictive Policies

South Koreans must follow regulatory policies, and need to have an overseas remittance to buy cryptocurrencies on any foreign exchange. The legal status of any South Korean cryptocurrency is vague, with the government not declaring it as a valid financial currency. Cryptocurrency must be declared to a South Korean bank. Any gains are also subject to Customs Regulations and the Foreign Trade Act.

Anti-Money Laundering Laws

In South Korea, many anti-money laundering laws prevent the trade and exchange of any illegally obtained cryptocurrency.

Foreign Investment Policies

South Korea also prohibits all non-domestic transfers from doing business on the country's exchanges. These policies do not allow South Korean cryptocurrencies to be exchanged on the world market.

Transaction Complexity

This complexity has discouraged investors from taking advantage of the Kimchi premium. Traders must open a new bank account to access any foreign exchanges.

Is Crypto Arbitrage Trading Legal?

Yes, crypto arbitrage is legal in most markets. However, not all exchanges follow the same regulations. Ecuador, Egypt, India and Bolivia don’t allow Bitcoin on their markets. South Korea's regulations have made it increasingly difficult for foreign investors to access the market. While there are opportunities for crypto arbitrage in different exchanges around the world, it’s best to check the local rules and regulations.

The Bottom Line

The Kimchi premium often inflates cryptocurrency prices on the South Korean market, as compared to those on other international exchanges. Some investors have taken advantage of arbitrage to reap the rewards of these higher prices. However, the South Korean government has enacted regulations to make it  difficult for foreign investors to exploit the Kimchi premium.