BOK likely to keep rate unchanged to avoid 'last mile' risk

 

The Bank of Korea (BOK) is expected to keep the base interest rate unchanged this month, mindful of the so-called “last mile” risk, whereby premature monetary easing could disrupt the stable progression toward price stabilization, market watchers said, Thursday.

This view is gaining ground as U.S. Federal Reserve (Fed) Chair Jerome Powell on Wednesday (local time) ruled out a rate cut in March, citing the need for “greater confidence” in inflation moderating to 2 percent. The Fed, however, has put an end to the monetary tightening cycle, as indicated by the removal of “additional policy firming” mentions from the Fed minutes. It left the federal funds rates unchanged at between 5.25 and 5.5 percent.

Similarly, indications of hasty easing from the central bank could jeopardize months of efforts toward stabilizing inflation. This is a much-dreaded yet highly probable scenario, as evidenced by cases of the U.S. in 1973, France in 1974, Greece in 1973 and Denmark in 1973, the BOK said. The countries failed to stabilize inflation during the final stage of the rate cycle due to premature, base effects-driven monetary easing. 

Experts say Korea will not be able to cut rates before the U.S., due to heightened risks of foreign capital outflow, extremely sensitive to a record-wide interest rate gap between the two countries. Korea's key interest rate is 3.5 percent.

Jan.22

“Korea will stand pat this month,” Hyundai Research Institute senior researcher Ju Won said.

The earliest rate cut will come in the latter half of this year, when weakening private consumption will weigh heavily on inflation, Ju said. Only then will the central bank seek adjustments in policy to respond, the researcher added.

“The Fed is not likely to cut rates before May at the earliest. By then, the local consumption will have dampened enough to prime the central bank’s policy easing,” he said. 

Similarly, Kim Wan-joong, chief economist at Hana Institute of Finance, said the Korean economy will slow down, bogged down by lingering concerns of project financing and a consequent slump in construction investments and a real estate market slowdown. 

“The central bank can consider providing liquidity to the market to reinvigorate the property sectors, a measure that can also bolster consumption. The timeline of a rate cut will be determined by the extent of the risk exposure to the builders and by extension the economy.” 

In a forum hosted by a business lobby, Thursday, BOK Governor Rhee Chang-yong cited the need for a tightening stance for a sufficiently long time to bring inflation down. On Jan. 11, he indicated that the central bank would maintain the restrictive monetary policy, adding at least six months would be needed before the bank’s monetary policy board can consider a rate cut. The comments sought to temper market expectations of swift rate cuts of up to 75 basis points this year.

However, Korea is preparing for an easing cycle, as inferred from the central bank’s Jan. 11 monetary meeting minutes where the mention of an “additional need for tightening” was removed. 

Deputy Prime Minister and Finance Minister Choi Sang-mok said early Thursday that uncertainties remain high over the timing and scope of rate cuts in major economies.

“The expectations of an early monetary easing around the globe have been scaled back,” he said during a meeting of financial authorities. “The government will strengthen monitoring of volatility in the financial market.”

The benchmark KOSPI ended at 2,542.46, up 45.37 points, or 1.82 percent from the previous session.

Korean currency closed at 1,331.8 won against U.S. dollar, up 2.8 won from the previous session.