Bank of Korea flags growth, credit fears as it reins in interest rate hike

The Bank of Korea raised its policy rate by 25 basis points Thursday, returning to its usual pace of tightening as growth and credit markets falter in the face of 24-year-high inflation running close to three times the central bank’s 2 percent target.

The unanimous decision the seven-member board reached to put the current rate at 3.25 percent -- a rise of 275 basis points since August last year -- underscored the central bank’s commitment to more increases despite their impact on growth. Two hikes of 50 basis points, twice the usual size, took place for the first time in July and October, separately, to bring down soaring consumer prices -- the top priority for the bank, according to its governor.

Gov. Rhee Chang-yong said the majority of BOK policymakers expect the rate to peak at 3.5 percent, noting it was too premature to discuss loosening policy. The central bank slashed next year’s inflation outlook, saying consumer prices are expected to rise 3.6 percent on annual average, lower than the current reading but still higher than the 2 percent goal the banks sees as agreeable.

For 2023, Rhee also sharply revised down the growth forecast to 1.7 percent from 2.1 percent, the first time the annual reading fell below the 2 percent mark. The “conservative estimate” -- 0.1 percentage point lower than the forecast released this week by the Organization for Economic Cooperation and Development -- is the result of an “avoidable slowdown” in the global economy, according to Rhee.

Still, there is no need to sound the alarm over Asia’s fourth-largest economy, Rhee noted, adding it would start a rebound as early as in the third quarter next year on strong chip exports. And in no way is the country entering a coupling of low growth and high prices, or stagflation, Rhee stressed in a repeat of his earlier assessment.

Rhee added that he would closely monitor the liquidity stress in the short-term money markets, the other reason behind the smaller rate hike, as banks with outstanding project financing loans for the real estate sector find it increasingly harder to attract investors, amid the default a state-backed local developer reported in late October. The government had injected liquidity worth billions of US dollars into the wider financial market to prevent a spillover, but restoring investor trust remains a work in progress.

Meanwhile, higher borrowing costs over the last year reduced household debt or at least capped it, Rhee said. Mortgage loans, which make up a big chunk of such debt, do not pose an imminent threat to the economy, but the bank will keep a close eye on the level, he added. According to the Institute of International Finance, the household debt made up 102.2 percent of Korea’s gross domestic product as of the second quarter this year. That is the highest among 35 major economies.

The central bank governor essentially dismissed the possibility of holding an unscheduled board meeting to soothe investor pessimism over a growing interest differential with the US. The Korean won is currently hovering near a 13-year-low against the dollar, as investors price in bigger yields from the greenback amid a hawkish US Federal Reserve.

“The dollar appreciation makes the won weaker but that doesn’t mean we have a crisis,” Rhee said, referring to worries over the country burning through its currency reserves as it did at the onset of the 1997 Asian financial crisis, when the International Monetary Fund stepped in for help.

“The appreciation and depreciation go hand in hand,” Rhee said. “We could hold a previously unannounced meeting (to address that) and it could look reassuring to us, but I don’t know how that’s going to look on the outside, in the eyes of foreign investors.”

The minutes from the Fed’s Nov. 1-2 meeting showed that a “substantial majority” of the policymakers expect to slow the pace of policy tightening -- the latest sign that the US central bank could revert to rate hikes smaller than 75 basis points. The four straight hikes of 75 basis points, the last of which came Nov. 3, brought the US rate to the 3.75-4 percent range. The Fed meets for the last time for the year in December.