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 potentially 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 comments suggesting “additional policy firming” from the Fed minutes. It left the federal funds rates unchanged at between 5.25 and 5.5 percent.

Similarly, experts caution that indications of hasty easing from Korea’s central bank could jeopardize months of efforts toward stabilizing inflation, drawing parallels to historical cases such as the U.S. in 1973, France in 1974, Greece in 1973, and Denmark in 1973. Those countries struggled to stabilize inflation during the final stage of the rate cycle, primarily due to premature monetary easing driven by base effects.

Experts say Korea will not be able to cut rates before the U.S., due to heightened risks of a potential outflow of foreign capital, which is particularly sensitive to a record-high interest rate gap between the two countries, currently standing at 2 percentage points. Korea’s key interest rate is currently 3.5 percent.

“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,” the researcher added.

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 also made comments opposed to easing 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.”