Nov 22, 2022
South Korea Seen Opting for Smaller Interest-Rate Hike on Credit Risks
(Bloomberg) -- The Bank of Korea is poised to return to its usual pace of policy tightening Thursday as it aims to rein in inflation without exacerbating credit risks that threaten to weigh on economic growth.
Fifteen of 17 surveyed economists see the central bank raising its key interest rate by a quarter percentage point to 3.25%. The remaining two expected it will back up last month’s half percentage-point increase with another move of that scale.
The BOK has delivered two half-point hikes this year as it sought to keep pace with the Federal Reserve’s rapid rate rises and stem pressure on Korea’s currency. The faster-than-usual tightening fueled angst in credit markets that were already roiled by the default of a local government-backed developer.
That combination sent the spread between three-month commercial paper yields and the BOK’s policy rate to the highest level since the global financial crisis. It also prompted the government and the central bank to team up to pledge at least 50 trillion won ($37 billion) in credit support last month.
“The BOK will be under pressure to provide more liquidity to the market to maintain financial stability, especially amid growing concerns about a liquidity crunch in the bond market,” said Chong Hoon Park, an economist at Standard Chartered Bank Korea.
The credit rout adds to a growing list of risks to the nation’s economy including a fall in exports, a rapid cooling in the housing market and inflation that remains elevated.
Consumer-price growth edged up to 5.7% in October after the currency weakened at the fastest pace in Asia in the third quarter, boosting the cost of food and energy imports. BOK Governor Rhee Chang-yong has complained that the won’s depreciation offset the benefits of falling oil prices.
In its quarterly forecasts, to be announced separately Thursday, the central bank is expected to lower its 2023 economic growth estimate while maintaining the inflation outlook, according to Societe Generale strategists Oh Suktae and Seong Kiyong.
“A slight rebound in October headline inflation has seen calls for continued monetary tightening, while clearer signs of a slowdown in activity indicators and the sustained ‘credit crunch’ in the corporate credit market also lessen the chances of a 50 basis-point hike,” they said in a research note.
That doesn’t mean the BOK is anywhere near the end of its tightening cycle. Indeed, a 25 basis-point hike risks allowing the rate differential with the Fed to widen to 1.25 percentage point within the space of month, creating an “uneasy” situation, said An Young-jin, an economist at SK Securities.
The currency fell to a 13-year low last month, driven by the Fed’s sharp tightening and Korea’s snowballing trade deficits.
The won has since stabilized and returned below 1,400 per dollar following slower than expected US inflation and expectations the Fed may also opt for smaller hikes. The switch in sentiment is providing some relief for Korean policy makers.
“The governor may hint that the pace of rate hikes will slow from this meeting, but the terminal rate will still be higher” than the current expectation of around 3.5%, said Tieying Ma, an economist at DBS Bank Ltd.
--With assistance from Tomoko Sato.
©2022 Bloomberg L.P.