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Moody's Investors Service says in its latest annual report on Korea that the outlook for Korea's A1 local and foreign government bond ratings remains stable, given the country's very high degree of economic strength, as well as high degree of institutional and government financial strengths.

At the same time, geopolitical risks, as currently assessed, do not constrain Korea's ratings, even after factoring in the death of Kim Jongil on 17 December.

Kim's demise does raise further uncertainties about the dynastic leadership transition in the North and the stability of the government in Pyongyang, but the robust state of the ROK-US alliance will continue to provide a strong deterrence to war.

Moody's ratings for Korea are based on four factors -- economic strength, which is classified as Very High; institutional strength, High; government financial strength, High; and susceptibility to event risk, Moderate.

The report notes that the April 2010 rating upgrade to A1 was prompted by Korea's exceptional level of economic resilience and effective policy response to the 2008 global crisis.

Looking at the current situation, economic prospects remain relatively favorable compared with most rating peers and with economies as large as that of Korea. Unemployment is lower than any other G-20 country and while inflation recently rose outside the Bank of Korea's policy range,  historically, expectations in this area have been well anchored.

The Moody's report notes that Korea's export-oriented economy is facing headwinds from the lackluster economic recovery in the US and from the Eurozone's banking and sovereign debt problems.

At the same time, such challenges would likely prompt an accommodative policy stance, and Korea has ample fiscal headroom to help boost growth.

The report also notes that the government has a strong fiscal position and its debt has been contained at a moderate level. The budget will likely remain in surplus over the near term, but non-financial public sector debt is slightly larger than that of the central government.

Furthermore, an intensification of the Eurozone crisis and deterioration in the global financial market conditions puts funding pressures on the Korean banking system. Continued success in reducing contingent vulnerabilities in the financial sector will be a key factor influencing the rating outlook.

Returning to the question of the death of Kim Jongil, the report says that the issue is whether the transfer of power to a young and inexperienced leader, Kim Jongun, will occur without a power struggle which increases the unpredictability of the North Korean military and without provocative military actions taken against South Korea.

However, Moody's central scenario is that the status quo prevails, but a collapse of the North would pose considerable challenges for the South.

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