Seoul: Moody’s raised South Korea’s sovereign credit rating by one notch on Monday to the highest on record and on par with Japan and China, citing its strong fiscal position, economic resilience and reduced external vulnerability of the country’s banks.

Moody’s Investors Service raised the country’s government bond rating to Aa3 from A1, nearly five months after it changed the rating outlook to “positive” from “stable” and the highest since it began rating the country.

It also said the upgrade was supported by stable relations with North Korea as it goes through a leadership transition.

“A possible step-up in Pyongyang’s economic engagement with Beijing, as seen in the announcement of three new industrial zones along the China-North Korea border, suggests that the risk of a collapse of the autarkic communist state during the leadership transition phase is diminishing,” it said.

Local treasury bond futures reversed earlier losses while the won slightly pared losses against the dollar following the ratings upgrade. Stocks showed a muted reaction.

No fresh surge of capital

“In a way, ratings agencies are following the market,” Erik Lueth, RBS senior regional economist in Hong Kong, said, adding that he did not expect a fresh surge in capital inflows due to the upgrade as the Korean bond market is already considered a safe haven.

It remains to be seen whether other ratings agencies will follow suit. Monday’s upgrade puts Moody’s rating for South Korea one notch above Fitch Ratings’ A-plus rating and Standard & Poor’s ratings Services’ A rating.

Fitch upgraded South Korea’s outlook to positive in November 2011, but S&P has kept a stable outlook on the rating due to risks associated with North Korea’s regime change.

“I think basically some ratings agencies would still be conservative, especially S&P,” DBS economist Ma Tie Ying said in Singapore.

Analysts said the ratings upgrade would help boost foreign portfolio investment into the country over the long term but any additional inflows would be limited for the short run as foreign investors have already boosted their holdings sharply.

Foreigners’ net investment in South Korean won bonds have risen by 5.91 trillion won (Dh19.14 billion) for the first seven months of this year, official data shows.

Since barely averting a sovereign debt default with an International Monetary Fund-led bailout in the late 1990s, South Korea has carried out tough reforms and supervisory actions over the local banking sector.