Bank of Korea Holds Key Rate to Weigh Fed, Domestic Politics

  • Central bank says risks to Korea’s growth path have increased
  • Benchmark borrowing costs in Korea are at a record low 1.25%

Bank of Korea headquarters in Seoul.

Photographer: Jeon Heon-Kyun/EPA

South Korea’s central bank held the nation’s benchmark interest rate unchanged as it monitors risks from parliament’s vote to impeach President Park Geun-hye and the impact of the rate hike by the U.S. Federal Reserve.

In a unanimous decision, the Bank of Korea kept the seven-day repurchase rate at a record low 1.25 percent for a sixth month, as forecast by all 19 economists surveyed by Bloomberg. Thursday’s meeting was the first policy review after the move against Park over an influence-peddling scandal, and the BOK indicated that risks to the country’s growth path have increased.

Implementation of government policies and business decisions could slow until there is clarity on the fate of Park and the timing for a presidential election, with the constitutional court to make a final decision on impeachment within 180 days. The central bank faces a tricky balancing act in the months ahead as it mulls whether to follow the rate-hike path of its U.S. counterpart, or focus more on economic concerns at home that weigh in favor of keeping rates low, or even lower.

"While some in the market think that a series of Fed rate hikes may lead to capital outflows from South Korea by narrowing the yield gap, or even by bringing a reversal, I have repeatedly said that capital flows are only one consideration when setting the benchmark rate," Governor Lee Ju-yeol said at a briefing. "We consider the overall economic situation and inflation."

Private economists have lowered growth projections for next year to reflect political uncertainty, with state-run think tank Korea Development Institute estimating expansion of just 2.4 percent. Of 29 analysts surveyed by Bloomberg during Dec. 2-Dec. 7, 18 forecast at least one more cut within 2017, nine saw no change, and two projected a 25 basis-point increase.

"The ongoing political crisis has damaged sentiment at a time when the economy is already facing headwinds from Samsung’s decision to scrap production of its premium Note 7 smartphone, the implementation of a tough new anti-graft law that will hit spending in restaurants, and ongoing corporate restructuring," Krystal Tan from Capital Economics in Singapore said in a note after the decision.

In response to a question on whether a rate cut is necessary, Governor Lee said the bank considers both the economy and financial risks when setting borrowing costs, but needs to pay more attention to financial stability when domestic and external uncertainties are high and markets are volatile. He also said monetary policy would remain accommodative.

Recent data is show a mixed portrait of the economy. Exports expanded in November from the previous year, prompting some economists to predict an end to the prolonged slump. Political scandal pushed consumer confidence -- which often foreshadows actual spending -- to more than a seven-year low. Factory output in October was worse than expected.

Turning Point

Lee said Korea may have passed the worst point for exports in the first quarter of this year, though he also noted that trade protectionism following the election of Donald Trump is a risk to the economy.

The BOK, which sees the economy expanding 2.8 percent in 2017 and consumer prices rising 1.9 percent, will release updated projections in January. Lee said there were downside risks to these projections, which were made in October.

Inflation in Korea is expected to rise from next year and the long-term trend is upward, said Lee. The consumer price index rose 1.3 percent in November from a year earlier, compared with the central bank’s 2 percent inflation target.

Korean markets on Thursday moved after the Fed’s decision. The won weakened 0.9 percent against the dollar to 1,180.27 as of 12:48 p.m. in Seoul. The yield on five-year government bonds rose nine basis points to 1.92 percent.

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