On the 25th, the Bank of Korea froze the base rate at 3.5% per annum. It is interpreted that the interest rate has been frozen three times in a row, taking into account the fact that inflation has slowed to the 3% level and that downward pressure on the economy has increased. South Korea’s economic growth forecast for this year has been lowered to 1.4%.
The Bank of Korea’s Monetary Policy Committee announced at its regular meeting that day that it had decided to keep the base rate at 3.5% per annum. With the third interest rate freeze following last February and April, analysts say the Bank of Korea has entered a full ‘interest rate freeze period’. The general view in the market is that the Bank of Korea will freeze the base rate at the current level until the end of the year.
Earlier, the Bank of Korea started raising interest rates in August 2021 to curb rising inflation and resolve the financial imbalance built up due to rising household debt. Last year, the United States Federal Reserve (Fed) conducted an unprecedented 7 consecutive rate hikes in line with high-intensity tightening.
The Bank of Korea, which raised the base interest rate 10 times for a year and a half until January this year by a total of 3.0 percentage points (p), stopped raising interest rates from February. This year, consumer price inflation has fallen below 5 percent, and concerns about an economic slowdown have grown due to sluggish exports and a prolonged trade deficit.
At the time, the Bank of Korea explained that “the ripple effects of interest rate hikes so far need to be examined.” In general, interest rate rises affect prices and the economy with a lag of about a year.
This time, it is interpreted that the Monetary Policy Committee has frozen the interest rate in order to confirm the effect of the accumulated interest rate increase. High inflation, the biggest reason for interest rate rises, appears to have stabilized this year. Year on year, the inflation rate continued to slow from 4.8% in February → 4.2% in March → 3.7% in April. The expected inflation rate, which is the rate of inflation expected by households and businesses in the future, fell for three consecutive months to 3.5 per cent this month as well.
Bank of Korea Governor Lee Chang-yong said, “Since international oil prices were so high in the middle of last year, there is a possibility that the inflation rate will temporarily fall to the 2% level in the middle of this year due to the base effect, and will remain at the 3% level for the year.” The Bank of Korea forecast a 3.5 percent rise in consumer prices this year.
The fact that downward pressure on growth is still strong is also noted as one of the reasons for the MPC’s decision to keep interest rates low. The Bank of Korea issued a ‘revised economic outlook’ on the same day and lowered its forecast for this year’s economic growth rate from 1.6% to 1.4%.
As the semiconductor cold wave and sluggish exports to China continued, exports, Korea’s ‘economic support’, declined for 7 consecutive months until last April. This year, the cumulative trade deficit reached 29.548 billion dollars, more than half of last year’s trade deficit (47.8 billion dollars), which is the largest annually. The current account, which represents Korea’s underlying physical strength, also continues an uneasy trend, recording deficits in January and February and barely turning into a surplus in March.
The fact that the Fed suggested at the Federal Open Market Committee (FOMC) meeting in May that it would stop raising the benchmark rate also gave strength to freeze the rate this time. In a press conference held immediately after the FOMC in May, Fed Chairman Jerome Powell said, “At this meeting, a view emerged that the base rate was close to the final rate level. ” Accordingly, the reason for the Bank of Korea to raise interest rates unreasonably in response to the gap between Korea and the United States has disappeared.
The interest rate gap between Korea and the United States has remained at 1.75% percent, the largest ever.
This base rate decision is evaluated to be in line with market expectations. According to a survey by the Korea Financial Investment Association, 89 out of 100 people who worked in the field of holding and managing bonds predicted a freeze in interest rates. The market’s biggest concern is when the Bank of Korea, which has entered the ‘interest rate freeze period’, will start cutting interest rates. So far, the Bank of Korea has maintained its position that it is premature to cut interest rates within the year.
