[EDITORIALS]Rates are too lowWhen the U.S. Federal Reserve Board raised the federal funds rate to 3.5 percent on Tuesday, that key U.S. rate became higher than its Korean counterpart. The Bank of Korea has maintained the benchmark call rate at 3.25 percent for nine consecutive months, while the Federal Reserve has increased the federal funds rate step by step.
Korea’s Ministry of Finance and Economy and its central bank are emphasizing that the increase in the U.S. interest rate will have little impact on local markets. They argue that there are no negative signs in view, such as capital flight out of Korea or a drop in Seoul stock prices.
And so the central bank is unlikely to raise the call rate at a Monetary Policy Committee meeting today. Han Duck-soo, finance minister and deputy prime minister, says there is no need to adjust interest rates.
But even if no immediate problems are caused by the key U.S. interest rate being higher than its Korean counterpart, the negative effects of the nation’s low interest rate remains. We have said that the central bank needs to raise the key interest rate slightly, to reflect market trends and to signal the possibility of further increases.
The low current rate is not boosting the economy, only causing damage. Real interest rates, with inflation factored in, are close to zero now. Accordingly, investors are putting their money in short-term products, frequently converting from this product to that. And the biggest investors are eyeing the real estate and stock markets. If low interest rates are not helping the economy, then it would be better to raise them to divert capital flow from the real estate market.
The markets are already moving in expectation of a rate increase. Long-term interest rates on the market are growing rapidly. The yield on three-year government bonds has already exceeded 4.5 percent and the rate on five-year government bonds has reached nearly 5 percent. Accordingly, the gaps between the key interest rate and the market interest rates are widening. Domestic banks have also begun to change their business strategies on the expectation that interest rates will rebound.
What’s more, the nation should prepare for further increases in the U.S. key interest rate. If the gap between the key Korean and U.S. rates widens, capital flight could begin in earnest.