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BOK extends rate pause amid mounting US, China pressure

Central bank cuts economic growth rate for 2024, considering slowdown in Chinese economy

By Im Eun-byel

Published : Aug. 24, 2023 - 16:01

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BOK Gov. Rhee Chang yong speaks at a press event held Thursday at the central bank's headquarters in Seoul. (Yonhap) BOK Gov. Rhee Chang yong speaks at a press event held Thursday at the central bank's headquarters in Seoul. (Yonhap)

The Bank of Korea on Thursday kept its policy rate unchanged at 3.5 percent, maintaining it a fifth consecutive time amid growing China fears and a widened rate gap with the US.

In a rate-setting meeting presided over by BOK Gov. Rhee Chang-yong, the six-member monetary policy board unanimously voted to maintain the current policy rate, which has stayed at 3.5 percent since February.

“The board decided to hold the rate, projecting it would take significant time for the inflation rate, which has been on a slowdown, to fall to the target rate, while also considering the escalated volatility in the monetary policies and economies of major countries, and the need to keep a close watch on rising household debts,” Rhee said at a press event held at the central bank’s headquarters in Seoul.

Rhee further maintained a hawkish stance, announcing that the board decided to keep the terminal rate at 3.75 percent for the time being for financial stability.

The BOK’s decision to continue the rate stems from the need to tamp down inflation. Though consumer price increases have eased in recent months, economic indicators show inflation could rebound soon, as the base effect from last year’s dip in international oil prices wears off.

While Korea’s consumer prices increased by 2.3 percent in July from a year earlier, the lowest level in 25 months, it still remains above the 2 percent target level set by the central bank.

International oil prices have been on the rise recently, too, adding to the growing inflationary pressure on the Korean economy, which is heavily dependent on energy imports.

While projecting that prices could rebound from August, the BOK maintained its inflation outlook for 2023 at 3.5 percent. The central bank also maintained its projection on Korea’s economic growth rate at 1.4 percent for 2023, despite the wide projection it may trim the rate due to China fears.

However, the BOK pulled down the growth rate outlook for next year by 0.1 percentage point to 2.2 percent, deeming that the Chinese economy is unlikely to make a recovery any time soon.

“The growth rate for this year was not further pulled down as the Chinese economic growth rate remains to be at a projected level for the time being,” Rhee said, explaining only four more months are left this year and that any shocks are likely to come later.

“In the past, Korea benefited from China’s rapid growth. This no longer works. We have to strengthen our own competitiveness through structural changes,” Rhee said, referring to the fact that Korea's exports are heavily dependent on China.

The risk involving the Chinese economy and the 2 percentage-point rate gap between Korea and the US have strengthened the power of the dollar, weakening the value of the Korean won in the foreign exchange market.

The exchange rate closed at 1,322.6 won per US dollar on Thursday, 17.1 won lower than the day before, more than 50 won weaker than just a few weeks ago in the 1,270 won range.

Though the Korean won partially recovered its value Thursday as the Chinese yuan gained strength to the dollar, it could tumble again in the near future, considering how easily it is swayed by external factors.

As the Korean won is not a key currency like the US dollar, euro or British pound, it is subject to high volatility in the foreign exchange market, fluctuating heavily depending on other key currencies.

"Improving economic fundamentals is an important factor in maintaining currency stability. But for the time being, the widened rate gap between Korea and the US poses the biggest threat for the Korean currency. As the rate gap remains to be wide, the Korean currency will continue to be volatile," Yonsei University economics professor Sung Tae-yoon said.

The Bank of Korea on Thursday kept its policy rate unchanged at 3.5 percent, maintaining it a fifth consecutive time amid growing China fears and a widened rate gap with the US.

In a rate-setting meeting presided over by BOK Gov. Rhee Chang-yong, the six-member monetary policy board unanimously voted to maintain the current policy rate, which has stayed at 3.5 percent since February.

“The board decided to hold the rate, projecting it would take significant time for the inflation rate, which has been on a slowdown, to fall to the target rate, while also considering the escalated volatility in the monetary policies and economies of major countries, and the need to keep a close watch on rising household debts,” Rhee said at a press event held at the central bank’s headquarters in Seoul.

Rhee further maintained a hawkish stance, announcing that the board decided to keep the terminal rate at 3.75 percent for the time being for financial stability.

The BOK’s decision to continue the rate stems from the need to tamp down inflation. Though consumer price increases have eased in recent months, economic indicators show inflation could rebound soon, as the base effect from last year’s dip in international oil prices wears off.

While Korea’s consumer prices increased by 2.3 percent in July from a year earlier, the lowest level in 25 months, it still remains above the 2 percent target level set by the central bank.

International oil prices have been on the rise recently, too, adding to the growing inflationary pressure on the Korean economy, which is heavily dependent on energy imports.

While projecting that prices could rebound from August, the BOK maintained its inflation outlook for 2023 at 3.5 percent. The central bank also maintained its projection on Korea’s economic growth rate at 1.4 percent for 2023, despite the wide projection it may trim the rate due to China fears.

However, the BOK pulled down the growth rate outlook for next year by 0.1 percentage point to 2.2 percent, deeming that the Chinese economy is unlikely to make a recovery any time soon.

“The growth rate for this year was not further pulled down as the Chinese economic growth rate remains to be at a projected level for the time being,” Rhee said, explaining only four more months are left this year and that any shocks are likely to come later.

“In the past, Korea benefited from China’s rapid growth. This no longer works. We have to strengthen our own competitiveness through structural changes,” Rhee said, referring to the fact that Korea's exports are heavily dependent on China.

The risk involving the Chinese economy and the 2 percentage-point rate gap between Korea and the US have strengthened the power of the dollar, weakening the value of the Korean won in the foreign exchange market.

The exchange rate closed at 1,322.6 won per US dollar on Thursday, 17.1 won lower than the day before, more than 50 won weaker than just a few weeks ago in the 1,270 won range.

Though the Korean won partially recovered its value Thursday as the Chinese yuan gained strength to the dollar, it could tumble again in the near future, considering how easily it is swayed by external factors.

As the Korean won is not a key currency like the US dollar, euro or British pound, it is subject to high volatility in the foreign exchange market, fluctuating heavily depending on other key currencies.

"Improving economic fundamentals is an important factor in maintaining currency stability. But for the time being, the widened rate gap between Korea and the US poses the biggest threat for the Korean currency. As the rate gap remains to be wide, the Korean currency will continue to be volatile," Yonsei University economics professor Sung Tae-yoon said.