The Korean government is set to face an uphill battle in keeping the Korean won from appreciating at a rapid clip as the U.S. debt crisis is sending ripples throughout financial markets across the world.

“The local currency could gain to the 1,000 won level against the greenback by the end of the year,” said Huh In, an international finance analyst at the state-run Korea Institute for International Economic Policy. “There is even a possibility that the Korean currency will likely rise even higher.”

Fears that the U.S. government might fail to avert a default by Tuesday’s deadline are putting downward pressure on the dollar, the world’s reserve currency. This is a development that will likely boost the value of the Korean won in coming months, which in turn will make Korean goods more expensive overseas for a country heavily dependent on exports for economic growth.

The Korean won ended at 1,054.5 won to the U.S. dollar on Friday, up about 8 percent this year, a sharp rise that outpaces other currencies. It was April 28, 2008 when the local currency last remained below the 1,000 won level, at 999.6 won.

Local exporters, particularly small manufacturers, are bracing for a rough period as the latest views from major research firms point to an inevitable appreciation that could quickly translate into a sharp cut in sales overseas.

Hyundai Research Institute, a private economic think tank, put out a similarly pessimistic outlook. “We originally expected the Korean won to settle at 1,070 won for all of 2011 with the rate for the second half hovering at around 1,050 won,” said Lim Hee-jeong, a researcher at the institute. “But the things have changed; the second-half average figure might reach 1,020-1,030 won, or fall below the 1,000 won level.”

Nomura Securities Co. projected a similar appreciation of the Korean currency, saying that the rate might hit 1,020 in the fourth quarter and the average for 2012 might rise to as high as 960 won.

The Korean financial authorities are slow to rein in the surging value of the Korean won partly because such gain could help stabilize the consumer prices, a top priority for local policymakers ahead of the presidential election next year.

The consumer prices surpassed the Bank of Korea’s 2-4 percent target range in each month of this year, raising fears that the inflation might spin out of control. Although the BOK was speculated to have intervened in the currency market last week, analysts said the authorities would have no other option but to let the Korean won appreciate for a while.

The debt crisis facing the U.S. is unlikely to get resolved quickly, with the economic indicators from other key markets showing no sign of a positive turn yet. Europe, another important export market for Korea, is grappling with one sovereign debt crisis after another across the euro-zone, casting a cloud over the economic outlook.

To take advantage of a widely expected rise in the value of the Korean won and seek safer assets, foreign investors are scrambling to increase their holdings in the bonds denominated in the local currency, boosting the total of foreign holdings to a record 86 trillion won ($82.2 billion) in July.

The rapid increase of the bond holdings by foreign investors has been led by central banks and state agencies in emerging markets, such as China and Thailand, partly because Korea’s fiscal conditions remain solid.

Daewoo Securities said the foreign central banks are showing greater interest in Korean bonds, encouraged by the country’s strong fundamentals such as sound fiscal status and continued current account surplus. “The inflow of foreign capital as a result of the bond purchases could play as a factor boosting the value of the Korean won further,” the brokerage said.

By Yang Sung-jin (insight@heraldcorp.com)