August 14, 2014

At its 14 August monetary policy meeting, the Bank of Korea (BoK) decided to cut the base rate for the first time, after 14 consecutive meetings in which the Bank refrained from raising the main monetary policy rate. The Bank cut the rate by 25 basis points to 2.25%, which was a move that markets had expected. The Bank’s decision also came after the government’s presentation of the stimulus package on 24 July, which, according to analysts, will create synergy with the government’s policies to boost economic growth.



In its accompanying statement, the BoK pointed out that it expects the global economy to maintain modest growth, sustained by the economic recovery in the United States and other advanced economies. On domestic developments, the Central Bank recognized that although exports have maintained healthy growth, domestic demand is still sluggish, mainly due to weak economic sentiment among Korean consumers and businesses in the wake of the Sewol ferry disaster. Similar to previous statements, the Bank again recognized that employment growth continues to be supported mainly by a higher number of workers in services as well as gains in the labor market among workers aged 50 and over.



Moreover, the BoK stated that inflation remains subdued, mainly as a result of declining price for agricultural products and oil. Although the Central Bank expects that inflation will rise gradually going forward, it judged that for the time being inflationary pressures remain contained. Regarding the exchange rate, the Central Bank welcomed the recent weakening of the currency.



The Central Bank concluded that authorities will conduct monetary policy in order to keep inflation contained within the Bank’s target, while supporting economic growth. In addition, the Bank stated that, “it will closely monitor external risks factors such as shifts in major countries’ monetary policies, changes in economic agents’ sentiment and movements of future economic indicators including the household debt trend, while observing the effects of this month’s Base Rate cut and the government’s policy.” Regarding the Bank’s decision, analysts Young Sun Kwon and Wee Khoon Chong from Nomura stated:



The risks to our policy outlook are biased toward further easing, as the government plans to maintain an expansionary macro policy stance until the general population feels the effects of higher income and wealth. This suggests that the government's policy stance has shifted towards debt-driven strong near-term growth. If domestic demand continues to weaken despite today's rate cut, government stimulus measures and improved exports, we believe the BOK is likely to cut rates further, with low inflation providing it with room to ease further. Furthermore, even if domestic demand does recover strongly, the BOK will likely find it difficult to hike rates soon, in our view, given a dovish MPC and the stance of pro-growth Finance Minister Choi Kyung-hwan.

FocusEconomics Consensus Forecast panelists are still taking these developments into account and expect the base rate to end 2014 at 2.30%. In 2015, panelists see the policy rate ending the year at 2.56%.