Central bank tilting toward rate hike

By Kim Jae-kyoung

Staff reporter

The nation's top central banker said Wednesday that economy was is closely approaching its maximum growth potential level, hinting that a key interest rate hike is on the cards.

The remarks came after Bank of Korea (BOK) Governor Kim Choong-soo and other policymakers froze the bank's benchmark rate at the record low level of 2 percent for the 15th straight month amid fears of another financial storm created by the debt crisis in Europe.

Touching on the timing of a rate increase, Kim told reporters, "Economic variables do not move at the same time, and all the variables need not reach a certain level to raise the key rate.

"Although construction still remains sluggish, the job market is recovering faster than expected through the private sectors," he added. "The economy is nearing its potential growth level, and it will stay above the level in the second half, stoking inflationary pressure."

The delicate tone in the official statement hinted at a rate increase in the near future. In the May statement, the central bank reiterated that it would maintain its accommodative policy stance to support economic recovery, but it removed the phrase "for the time being."

The slight omission is taken as a sign that the central bank has become more upbeat regarding Korea's economy, with financial data pointing to an economic upturn.

The nation's gross domestic product grew at the fastest pace in more than seven years in the first quarter of the year, with gross domestic product (GDP) expanding 7.8 percent from a year ago.

More importantly, the once frozen job market has shown signs of thawing, with the number of employed people reaching 23.92 million last month, up 401,000 from a year earlier, the highest gain in four and a half years.

However, market analysts say that although the bank is tipping the balance of its monetary policy in favor of credit tightening, a rate hike is not likely to come in the coming months due to lingering uncertainties abroad created by the Europe debt fiasco.

They forecast that the first rate increase will not come until the third quarter of this year as the BOK is likely to wait for the U.S. Federal Reserve to implement exit plans.

"The central bank has cited international financial market turmoil emanating from Europe as warranting the maintenance of policy accommodation," ING Group economist Prakash Sakpal said.

"We remain of the view that the BOK will wait for the U.S. Federal Reserve to hike first. We continue our forecast that the BOK base rate will end the year at 2.25 percent," he added.

The bank slashed the rate by a total of 3.25 percentage points between October 2008 and February 2009 in a bid to minimize the economic meltdown.