Pressure Grows on BOK to Hike Interest Rates Again

The U.S. Federal Reserve is widely expected to hike the federal funds rate later this month, increasing pressure on the Bank of Korea to do the same.

Fed Chairman Jerome Powell on Tuesday told the U.S. Senate Banking Committee, "If the totality of the data were to indicate that faster tightening is warranted, we would be prepared to increase the pace of rate hikes. The process of getting inflation back down to two percent has a long way to go and is likely to be bumpy." 

The BOK froze the interest rate last month at 3.5 percent, halting a string of hikes since April last year. The Monetary Policy Committee holds its next rate setting meeting on April 11.

If the Fed boosts the base rate by 0.5 percentage point this time it will rise to 5.25 percent, widening the gap with Korea by 1.75 percentage points. Market watchers expect the Fed to keep boosting the rate to 5.5 percent and even 5.75 percent, and if the BOK continues to freeze the key rate, Korea will be at least two percentage points behind.

That brings the threat of a drastic capital outflow from Korea as investors seek better gains elsewhere. 

BOK Governor Rhee Chang-yong told reporters earlier this week, "If the gap between U.S. and Korean interest rates widens, there are expectations that capital will exit from Korea and the won will weaken. But from the perspective of economic theory, the interest rate gap is only one of many factors that determine exchange rates." 

But since a capital exodus and a sharp weakening of the won cannot be ruled out, the BOK is expected to raise interest rates again next month after all.

Rhee added, "The speed of home price declines eased in January and February, demonstrating the possibility of a soft landing" of the real estate market. "Last year home prices declined too quickly, between 19 to 20 percent on average, which caused worries of financial market instability. There is a persistent perception that real estate investments will continue to yield profits, but we have to wonder if this trend can persist in an aging society." 

He also urged Koreans to manage their assets according to their means by considering the growing interest rate burden.

He added that it is definitely too early to think about lowering the key rate. "It would be preferable to monitor inflation until the end of this year and see if there is confidence that consumer price growth will remain within the two-percent target," he said.