The central bank’s latest decision to cut its base rate by 25 basis points came as a surprise to the financial market, which, given its governor’s earlier remarks, had anticipated a continued freeze. When the rate was frozen at 3.25 percent for the 13th consecutive month in June, the governor said it did not mean any change in the central bank’s policy of raising the rate to the proper level at a time deemed suitable.
Many had anticipated the central bank would keep the rate intact this month again, with the world economy dithering as a consequence of the global financial instability of European origin. Defying expectations, the Monetary Policy Committee of the Bank of Korea cut the rate to 3 percent on Thursday. Its governor termed the rate cut a “preemptive measure” against an economic slowdown.
This is not to say that the central bank’s surprise action was beyond comprehension. The rate cut came at a time when, as the committee noted in its statement, the global economy’s recovery was expected to be slower than previously forecast. As the global economic conditions have worsened, the Korean economy is not expected to regain as much vitality as the administration had anticipated.
Under these circumstances, the central bank undoubtedly felt it necessary to give the domestic economy a shot in the arm. Moreover, the stable consumer price index, which stood at 2.2 percent last month, worked in favor of the rate cut.
The central bank expected the rate cut to raise growth by 0.02 percentage point this year and by another 0.09 percentage point next year. The rate cut would also help relieve the debt household burden and, by doing so, encourage consumption. Experts say there is little possibility that it would encourage households to take on additional debt, given that the property market is in a slump.
Nonetheless, the rate cut cannot be welcomed with enthusiasm. The central bank will have less room for maneuver if the world is thrown into another Great Recession, this time originating in Europe.
The central bank could afford to raise the rate last year, financial experts say. If so, it was rightly accused of squandering such opportunities. Moreover, there was no guarantee that consumer prices would continue to remain stable, given the expected rate of inflation, or investor and public expectations of inflation, was high, at 3.7 percent.
