Seoul stocks, currency rally as Fed signals multiple rate cuts in 2024

 

The local stock market and Korean currency jumped Thursday on the back of overnight rallies in the U.S. stock markets after the Federal Reserve indicated three interest rate cuts to come in 2024.

The dovish outlook came after the Federal Open Market Committee left the interest rates unchanged for the third consecutive time in a range of 5.25 percent to 5.5 percent at a meeting held on Wednesday (local time).

The committee's economic outlook report showed that the U.S. base rate would be reduced to 4.6 percent at the end of next year, which has raised the probability that the Fed will lower the rate by a quarter of a percentage point three times next year.

The benchmark KOSPI closed at 2,544.18, up 33.52 points or 1.34 percent, from the previous session, while the tech-heavy Kosdaq gained by 11.28 points or 1.38 percent to end at 341.33. The won-dollar rate closed at 1,295.4 won against the U.S. greenback, down 24.5 won from the previous session.

Federal Reserve Chair Jerome Powell said inflation is showing progress and that the economy is normalizing.

“Overall, the development of the labor market has been very positive,” he said during a press conference on Wednesday. “It’s been a good time for workers to find jobs and get solid wage increases.”

Job growth is still strong but moving back down with population growth and labor force participation factored in.

“The era of this frantic labor shortage is behind us,” he said. U.S. wages remain higher than the Fed inflation target of 2 percent, but have gradually been edging lower.

The question of when it will become appropriate to begin dialing back monetary policy begins to come into view and is clearly now a topic of discussion worldwide.

“It was also a discussion for us at our meeting today,” Powell said. “Waiting to cut rates until inflation reaches 2 percent would be too late.”

Kiwoom Securities researcher Kim Yu-mi said she maintains the current view that the Fed will make about three rate cuts starting from June next year.

“The rate will be cut to the extent a stable soft landing of the U.S. economy is possible,” she said. “The Fed mentioned the possibility of a cut in the context of prices declining. We should respond to the possibility of a rate cut next year.”

Impact on Korea's monetary policy

The Fed rate outlook is the largest factor for the Bank of Korea (BOK) in rate setting, mostly because the emerging market is highly vulnerable to foreign capital outflows.

The overnight Fed decision certainly creates more policy room to maneuver. However, the Korean central bank is still hamstrung by a spike in the world’s fastest growing household debt of 1,876 trillion won and unwieldy inflation.

Korea’s household debt-to-GDP stood at 100.2 percent as of September, the highest figure among OECD member countries. When "jeonse" deposits are factored in, the figure rockets to 2,925.3 trillion won, according to Korea Economic Research Institute, a private think tank. Jeonse is a home renting system unique to Korea whereby tenants pay a lump sum refundable deposit for the term of the contract instead of monthly rent.

November consumer price inflation came to 3.3 percent marking the fourth consecutive month of the sustained increase.

In a currency and credit policy report released Thursday the central bank said uncertainties are elevated over when the inflation target of 2 percent will be met, if met at all.

Among the significant factors are “sustained cost increases, fluctuations in global oil prices and foreign exchange rates, government policies on utility costs through early next year.”

Lee In-ho, former chair of the Korean Economic Association, said the BOK will lower the key rate only after the Fed begins the monetary easing cycle.

“Variables abound, but expectations of a Fed rate cut can strengthen preferences for risky assets. This will push up inflation expectations and in turn keep inflation elevated. The central bank will need time to monitor the inflation outlook through the first half of next year,” Lee said.

The BOK said high interest rates continue to exacerbate the risk of default on borrowings for low-income earners. “It is necessary to closely monitor global growth and price indicators, changes in market expectations and foreign investment flows.”

Deputy Prime Minister and Finance Minister Choo Kyung-ho noted local stock prices and currency have risen and interest rates have fallen steeply, driven by expectations of an earlier-than-expected Fed rate cut.

“Stock prices and Korean won exchange rates are showing stable movements," he said. "Treasury yields are inching down. Corporate bonds and short-term capital market interest rates are also stabilizing.”