The Bank of Korea raised its base rate by 0.25 percentage point to 3% from 2.75%. The second straight increase moves preemptively against inflation, home prices in the greater Seoul area and financial risks including household debt, while signaling the central bank may slow the pace of further hikes. Market participants describe the outcome as a hawkish decision paired with a dovish path ahead.
"Preemptive action can stabilize inflation expectations quickly, shortening the intensity and duration of tightening and ultimately easing the burden on growth," BOK Governor Hyun Song Shin said at a press briefing on the 27th. "As the proverb goes, what can be blocked with a hoe should not be left until it takes a rake. This time we chose to act with the hoe."
Consumer price inflation is now more likely to rebound into the 3% range in August, and gains in Seoul apartment prices have widened. Seoul apartment sale prices rose 0.29% in the fourth week of August from the previous week. Household debt also topped 2,000 trillion won for the first time in the second quarter. Shin said the rate increase should help stabilize not only prices and the currency but also home prices in the greater Seoul area and household debt.
A sharply improved growth outlook also underpinned the decision. The BOK lifted its growth forecast for this year to 3.3% from 2.6%, and for next year to 2.9% from 2.1%. It said the expansion would prove stronger than expected as a robust semiconductor cycle combined with a recovery in consumption and investment.
Still, the central bank signaled it would moderate the pace of additional increases. The phrase stating a need to continue the rate-hiking stance was dropped from the monetary policy statement, and Shin said the bank needs to see whether the currency, import prices and inflation stabilize after two consecutive hikes.
In the dot plot for the base rate six months out, 3.25% drew the most support, with 10 of 21 projections. Shin said the distribution means roughly one more increase from the current level over the next four meetings, and he projected a gradual path of rate increases.
Market participants are accordingly leaning toward the view that government bond yields may be peaking. Yoon Yeo-sam, an analyst at Meritz Securities, said the August rate-setting meeting raised the likelihood that market rates have peaked. Park Jun-woo, an analyst at Hana Securities, cautioned against additional bond buying, noting the economy is at the start of an expansion.
Shin also said the government's expansionary fiscal policy and rate increases are not necessarily at odds. If fiscal spending goes beyond stimulating short-term demand and flows into investment that raises productivity and potential growth, it can complement monetary policy, he said. "If fiscal spending is directed at investment that can lift future growth and raises potential growth, it may not necessarily work at cross purposes," Shin said. "It could even work in a way that helps monetary policy." He added that the effect would vary with the form, scale and purpose of the spending.
