BOK rates at record low

Central bank may use unconventional methods to support economy

SEOUL: Bank of Korea (BOK) governor Lee Ju-yeol said the central bank is considering using unconventional policy tools to support growth, after cutting interest rates to a record low and forecasting the first economic contraction since the Asian financial crisis.

“Should it be deemed necessary to expand the accommodative stance of monetary policy further, we could actively respond with policy tools other than rates,” Lee said at a press briefing, adding that all options are on the table.

The decision to cut the seven-day repurchase rate to 0.5% was unanimous, and has taken the key rate close to the effective lower bound, Lee said. The BOK will actively purchase government bonds to stabilise markets, according to the central bank chief.

Lee’s remarks suggested the central bank will be more reluctant to take rates further down for now, and instead might use other tools to support an economy battered by the coronavirus pandemic.

While Lee appeared to inch closer to signalling unconventional action, investors may have been hoping for clearer guidance on what action the BOK might take. South Korea’s government bond futures erased earlier gains after the comments, having surged following the Bok’s decision.

The central bank said the economy will contract 0.2% this year, a dramatic downgrade from the 2.1% growth it had forecast at the onset of the coronavirus outbreak in February. Inflation will slow to 0.3%, the BOK said.

The forecasts are based on assumption that the global pandemic peaks this quarter, but do not account for a potential rekindling of the Us-china trade war, Lee said.

Despite South Korea’s overall progress in containing the outbreak, sporadic cases are continuing to emerge. Exports are slumping as key overseas markets struggle to reopen from lockdowns, while job losses are surging and inflation is slowing.

Escalating tensions between the United States and China also pose a risk to South Korea’s economy, Lee said.

The negative growth forecast of 0.2% is still too wishful, given the economy is likely to contract further, said Park Hee-chan, an economist at Mirae Asset Daewoo. “A further rate cut isn’t going to be too effective because the rate is already very low. The BOK will probably turn more to unconventional tools.”

Yesterday’s cut is the second since the outbreak after the BOK lowered rates by 50 basis points at an emergency meeting in March. Eighteen of 23 analysts surveyed by Bloomberg had expected the decision. One economist forecast a larger reduction, while the rest saw no change.

The BOK has so far taken a series of unprecedented steps to ease liquidity strains among firms and in the market. The government has also set aside its usual fiscal prudence and is now planning a third extra budget that is likely to be bigger than the previous two. Still, private sector economists expect the economy to shrink this year by 0.5%.

“We thought it was the right thing to do to lower the rate at this moment when economic growth is falling to near 0% and inflation is falling sharply, with the Covid-19 pandemic being expected to drag on,” Lee said, responding to a question on why the cut took place in May rather than in July.

The central bank said in its policy statement that the board will maintain its accommodative policy stance, as growth is expected to be sluggish and demand-side inflationary pressure weak due to the Covid-19 pandemic.

Yesterday’s decision was the first under the Bok’s new board since three members joined late last month. One of the new members, Cho Yoon-je, didn’t take part in the vote as his stock holdings were still under review, the BOK said.

“With the government expected to land another sizable fiscal stimulus package in the coming weeks, we think the BOK may increase its bond purchases – though likely stop short of introducing a full-fledged quantitative easing programme, for now. In the meantime, we expect it to roll out additional targeted measures to reduce funding costs and support liquidity,” according to a Bloomberg economist.