Consumer prices hit 26-month high, fueling rate hike expectations

Korea's consumer inflation accelerated to a 26-month high in May, driven by soaring oil prices amid the ongoing conflict in the Middle East, reinforcing market expectations that the Bank of Korea (BOK) could raise the base rate in July, market watchers said Tuesday.

Consumer prices, a key gauge of inflation, rose 3.1 percent last month from a year earlier, marking the fastest pace of growth since March 2024, according to data released by the Ministry of Data and Statistics.

The increase was largely driven by higher energy costs.

Prices of industrial goods rose 4.2 percent from a year earlier, while petroleum product prices jumped 24.2 percent, contributing 0.92 percentage points to overall inflation. This marked the steepest increase since a 35.2 percent surge recorded in 2022, following Russia's invasion of Ukraine.

The statistics ministry attributed the rise in consumer prices to a rebound in agricultural, livestock and fisheries product prices, as well as soaring oil costs linked to the conflict in the Middle East.

On the same day, central bank officials held a meeting to review inflation developments.

"Inflation is expected to remain at a level similar to the previous month in June, as petroleum prices are likely to continue posting elevated rates of increase," the central bank said in a statement.

The BOK added that inflation is expected to stay in the 3 percent range for the time being as higher energy costs gradually spread to other sectors of the economy.

Market analysts said the stronger-than-expected inflation trend, coupled with the BOK's increasingly hawkish rhetoric, has strengthened the case for a rate hike in the coming months.

The central bank left its benchmark interest rate unchanged at 2.5 percent at its Monetary Policy Board meeting last Thursday, but signaled a more hawkish stance.

BOK Gov. Shin Hyun-song reinforced that message on Monday, saying Korea's stronger-than-expected economic growth poses "fewer impediments" to adjusting monetary policy in response to inflationary pressures.

"(Strong economic growth) gives us a lot more leeway to conduct monetary policy in an effective way to address inflation," Shin said.

Market expectations are growing that the central bank could begin raising interest rates as early as next month.

Park Seok-gil, an analyst at JP Morgan, projected 0.25 percentage-point rate hikes in July and October this year, followed by January and April next year.

"While growth is still led by the tech sector, spillover effects to domestic demand are expected, and demand-side inflation pressures are now being considered a major change," Park said.

Fitch Group also revised its outlook, saying it now expects the central bank to begin its tightening cycle in July and deliver two 0.25 percentage-point rate hikes, bringing the policy rate to 3 percent this year. The forecast marks a shift from its previous view that the BOK would wait until the fourth quarter to start raising rates.