Monetary, fiscal policies out of sync as BOK hikes rates, gov't boosts spending

Concerns are growing that the country's monetary and fiscal policies are moving out of sync, as the central bank accelerates its tightening cycle while the government pursues an expansionary fiscal policy with next year's budget proposal expected to exceed 800 trillion won ($581 billion), experts said Friday.

The Bank of Korea (BOK) on Thursday raised its benchmark interest rate by 0.25 percentage points to 3 percent, delivering a second consecutive hike following its July increase, as it sought to contain inflationary pressures.

Meanwhile, the Ministry of Planning and Budget is in the final stages of preparing next year's budget proposal.

Last month, the ministry suggested a spending increase of 10 percent or more from this year's 729.9 trillion won budget, signaling that next year's budget could exceed 800 trillion won.

This would mark the first double-digit increase in total expenditures since 2009, when spending rose 10.9 percent amid the global financial crisis.

Experts warned that the BOK's tightening monetary policy and the government's expansionary fiscal policy could clash, weakening the central bank's efforts to contain inflation.

"The BOK is expected to accelerate tightening for the time being to bring inflation down to its 2 percent target. But excessive fiscal expansion could weaken the effects of such measures," said Kim Dae-jong, a professor of business administration at Sejong University.

Higher interest rates are intended to cool the economy by making borrowing more expensive and discouraging spending and investment. An expansionary fiscal policy, however, can have the opposite effect by injecting money into the economy and supporting demand, he explained.

Kang Sung-jin, a professor of economics at Korea University, said the government should take greater caution against the potential side effects of fiscal expansion, including renewed inflationary pressures.

"There will always be some degree of divergence between monetary and fiscal policies because the BOK's goal is to stabilize prices, while the government's goal is to stimulate the economy. The two sides therefore need to communicate frequently," Kang said.

"But the bigger problem is that the government's fiscal expansion plan prioritizes spending over reducing the national debt. Rather than putting the additional tax revenue generated by the semiconductor boom toward more spending, the government should use it to reduce its debt," he added.

The issue has also drawn criticism from opposition parties.

The main opposition People Power Party (PPP) on Friday criticized the government's expansionary fiscal policy, saying it was at odds with the BOK's tightening stance.

"The divergence between the government's fiscal expansion and the BOK's tightening is adding to market uncertainty, with the burden ultimately falling on borrowers already struggling with higher interest payments," said PPP spokesperson Park Choong-kwon.

The central bank governor, however, did not see the two policies as necessarily being at odds.

"I think the answer depends on the form, size and purpose of fiscal spending," he said during Thursday's press conference when asked about the issue. "If fiscal spending is used for investment that can boost future growth, it does not necessarily mean that monetary and fiscal policies will be out of sync."