South Korea cuts rates to record low as pandemic hits economy

SEOUL (BLOOMBERG) – The Bank of Korea cut its key interest rate to a record low on Thursday (May 28), as it forecast the economy will contract this year for the first time since the Asian financial crisis in the late 1990s.

The decision to cut the seven-day repurchase rate by a quarter percentage point to 0.5 per cent was predicted by 18 of 23 analysts surveyed by Bloomberg. One economist forecast a 50 basis point cut, while the rest saw no change.

The cut comes as the central bank said the economy will contract 0.2 per cent this year, a dramatic downgrade from the 2.1 per cent growth it had forecast at the onset of the coronavirus outbreak in February. Inflation will slow to 0.3 per cent, the BOK said.

The central bank said in its policy statement the board will maintain its accommodative policy stance, as growth is expected to be sluggish and demand-side inflationary pressure weak due to the Covid-19 pandemic.

South Korea’s bond futures rallied as much as 124 ticks to 135.49 after the central bank’s decision and the release of the forecasts, while the won weakened 0.3 per cent to 1,237.65 per dollar as of 10:59am Seoul time.

Despite South Korea’s overall progress in containing the outbreak, sporadic cases continue to emerge. Exports are slumping as key overseas markets struggle to reopen from lockdowns, while job losses are surging and inflation is slowing.

“BOK will probably halt at 0.5 per cent, but it is possible for markets to expect another cut this year,” said Cho Yong-gu, a fixed-income strategist at Shinyoung Securities. “The key focus during Lee’s briefing today will be on whether the central bank will signal further government bond purchases. If bond buying is regularized it’d actually mean conditional quantitative easing.”

One notable difference compared with previous policy statements was the omission of a phrase that the BOK would “judge whether to adjust the degree of monetary policy accommodation.”

Park Hee-chan, an economist at Mirae Asset Daewoo, said this could be a signal the BOK is leaning more toward unconventional stimulus measures beyond rate cuts.

Thursday’s cut is the second since the outbreak after the BOK lowered rates by 50 basis points at an emergency meeting in March. The central bank has since taken a series of unprecedented steps to ease liquidity strains among firms and in the market.

The government has also set aside its usual fiscal prudence and is now planning a third extra budget that is likely to be bigger than the previous two. Still, private sector economists expect the economy to shrink this year by 0.5 per cent.

NEXT STEP

BOK watchers will be keen to see what other measures Governor Lee Ju-yeol can deploy should the economy worsen, with conventional policy room running low. Some analysts expect the bank to announce plans to increase bond purchases as the government’s stimulus will inevitably require more debt issuance.

Thursday’s decision was the first under the BOK’s new board. With the policy preferences of its three new members still unknown to the public, any sign of dissent within the board will be watched closely for cues. One of the new members, Cho Yoon-je, didn’t take part in the vote Thurday, the BOK said.

Governor Lee typically announces whether the decision was unanimous or not in his post-decision press conference.

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