The Bank of Korea is facing a complex decision regarding its interest rate ahead of the August meeting. While exchange rates and consumer prices have stabilized, the unexpectedly strong growth and core inflation still suggest the need for further rate hikes.
According to financial sources, the Bank of Korea will hold a monetary policy committee meeting on the 27th to decide whether to adjust the current base rate of 2.75% per annum.
Previously, the Bank raised the base rate by 0.25 percentage points from 2.50% to 2.75% during the monetary policy committee meeting on July 16. This marked the first increase in three and a half years since January 2023.
At that time, committee members cited strengthening economic growth, inflation exceeding target levels, rising housing prices in the metropolitan area, and risks related to household debt as common reasons for the hike. In fact, until early last month, the won-dollar exchange rate was above 1,500 won, and the consumer price inflation rate recorded over 3% for two consecutive months in May and June.
The unexpectedly strong growth has also bolstered expectations for further rate hikes. In the second quarter of this year, the real GDP grew by 0.6% compared to the previous quarter, significantly surpassing the Bank's May forecast of 0.2%, leading to discussions of a 'back-to-back' rate increase in August.
However, recent conditions have changed. The won-dollar exchange rate has quickly dropped to around 1,410 won, and the consumer price inflation rate in July slowed to the 2% range for the first time in three months. With the easing of high exchange rates and inflation pressures, the Bank has less incentive to rush into further rate hikes.
BNP Paribas recently forecasted that the Bank of Korea will hold the base rate steady this month, with potential increases in October and January of next year. While there remains a need for further tightening in terms of growth and inflation, the rapid stabilization of the exchange rate and the limited asset effects due to adjustments in the domestic stock market were cited as reasons.
Woori Financial Group's Economic Research Institute also predicted a high likelihood of a 'hawkish hold' this month, citing the need for time to assess the policy effects of last month's rate hike. However, they expect one or two dissenting opinions advocating for a rate increase.
On the other hand, the possibility of a 'back-to-back' rate hike has not been completely ruled out. The upward pressure on core inflation remains high, and there is a chance that the inflation rate could widen again in August. The unusual gap between GDP and Gross Domestic Income (GDI) is also a variable. Analysts suggest that if real purchasing power increases rapidly due to improved trade conditions, it could lead to higher demand-side inflation pressures.
Bank of Korea Governor Shin Hyun-song stated at a press conference following last month's rate decision that he would closely monitor the second quarter GDP and GDI, as well as July's core and living costs, before making a decision in August.
* This article has been translated by AI.
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