South Korea's Central Bank Freezes Interest Rate, Hints at Future Rate Hikes

Strategic Insights -

The Bank of Korea retained its key interest rate at 4.25 per cent for July, defying market expectations of a potential rate hike. This decision comes as the country's economic growth shows a steady recovery, with exports and private spending exhibiting double-digit growth. However, the bank's governor, Lee Seong-tae, hinted that inflation is accelerating, and that the monetary policy may be adjusted in line with future consumer price forecasts. This means that South Korea's interest rates may be raised in the future, potentially in the second half of the year or early next year, to curb inflation and maintain economic growth.

Key Takeaways:

  • The Bank of Korea's seven policymakers retained the July target for the call rate at 4.25 per cent, despite a 0.25 percentage point hike in June.
  • 13 out of 15 economists surveyed by Yonhap Infomax predicted the bank would freeze the rate, in line with analyst expectations.
  • Construction investment remains in a slump, while exports are exhibiting resilient double-digit growth along with steady increases in private spending and facilities investment.
  • Both consumer and core inflation remain stable, but an economic recovery since the second quarter and sharp rises in global oil prices will add to upward pressure on consumer prices.
  • The monetary policy should be tuned in line with future consumer price forecasts instead of those of the past, according to Governor Lee.
  • Consumer price inflation is expected to reach up to 3 per cent by the end of the year or early next year, according to Governor Lee.
  • The decision comes after South Korea's government called for the bank to maintain the rate to boost growth.
  • Many private economists voiced concern over the pace of growth in the second half for Asia's fourth-largest economy, arguing that the growth seen in 2006 may fall below the government expectation of above 5 per cent growth due to relatively weak consumer spending.
  • Economists predict South Korea's economy will expand between 4.5 per cent and 4.8 per cent this year, with the finance ministry maintaining its 5 per cent growth forecasts.
  • Consumer spending is expected to accelerate on-year gains to 4.4 per cent for 2006, up from 3.2 per cent in 2005.

Statistics:

  • Interest rate: 4.25 per cent (remains unchanged)
  • Economists surveyed predicting freeze: 13 out of 15 (by Yonhap Infomax)
  • Predicted growth rate for 2006: 4.5 per cent - 4.8 per cent (various economists)
  • Predicted consumer spending growth for 2006: 4.4 per cent (finance ministry and central bank)
  • Core inflation: 2.2 per cent (June, below bank's target of 2.5 per cent to 3.5 per cent this year)
  • Consumer price inflation: expected to reach up to 3 per cent by the end of the year or early next year (Governor Lee)

Sources:

  • Yonhap Infomax (poll of economists)
  • Bank of Korea (statements from Governor Lee)
  • Yonhap News Agency (reporting on the interest rate decision)
  • Vice Finance Minister Bahk Byong-won (interview)
  • Samsung Economic Research Institute (predicted growth rate for 2006)
  • Hyundai Research Institute (predicted growth rate for 2006)
  • LG Economic Research Institute (predicted growth rate for 2006)
  • South Korea's Finance Ministry (predicted growth rate, inflation, and job growth)