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[EDITORIALS]An unwise interest rate cut

Published: 12 Nov. 2004, 22:17

The Bank of Korea, defying the predictions of the market, lowered a key interest rate by a quarter of a percent. Park Seung, governor of the central bank, explained, “The bank decided to lower interest rates as the economy showed signs of shrinking further.”
But the market reacted indifferently, showing that the economy is not likely to revive despite an interest rate cut. To the contrary, people worry that the side effects of the cut will be costly.
Only a month ago, the central bank itself had the same view. Deciding to freeze a key rate then, Mr. Park said, “Even when the volume of currency increases, money does not flow to businesses. It will boost, instead, speculative investments in securities and bond markets and even rekindle real estate speculation.” He also said, “Currently in the market, there is enough money to support the real economy.” The reason businesses do not invest is not because of shortages of money in the market nor high interest rates.
Everyone in the market predicted that the Monetary Policy Committee would decide to freeze interest rates. Instead, it cut them. The economic situation, however, did not change and so trigger a changed policy by the bank.
Of course, we can guess what was behind this. The Ministry of Finance and Economy didn’t hide its dismay when the bank decided to freeze interest rates last month. The ministry regretted the absence of cooperation by the bank, while the government, mobilizing all possible means, exerted all its efforts to revive the economy. In practice, the government is churning out economic recovery plans day after day. It is certain that such an atmosphere influenced the committee’s decision, either directly or indirectly.
But the interest rate cut, neither the market nor the bank recognizes, is not a desirable policy, because we have to pay a big price ― market confusion and the loss of the central bank’s credibility ― without gaining the intended effects. Criticism abounds in the market and in foreign press reports. The effect of interest rate cuts seems to have already been halved.
On the day the central bank cut interest rates, the monetary authorities of the United States and Hong Kong raised theirs. In the international trend of raising interest rates, Seoul alone goes against it. Now, we are in a situation where it is difficult to lower interest rates further. If inflation rises but the economy doesn’t, with what logic will the bank defend itself?