Bracing for the aftershocks

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Bracing for the aftershocks

In a surprise move, China’s central bank raised the country’s benchmark interest rate this week by 0.25 percentage points to tame runaway inflation, dampen soaring property prices and steer the nation’s booming economy in the right direction.

The rate hike bucks the overall trend among developed countries that are keeping rates flat to prop up their economies. The move may have been an inevitable policy choice for Chinese authorities, who have become frustrated after a mix of other measures to ease inflation failed.

These officials likely deemed that stabilizing consumer and housing prices now takes precedence over economic expansion.

While China made the decision with domestic considerations in mind, the effect of the rate increase has rippled across the globe.

Major stock markets all tumbled after the decision was announced, as did prices for key raw materials. Foreign investors also decided to take a breather from their recent buying spree on the Seoul bourse.

Many experts fear the fragile global economy will experience another setback when China reins in its rapid economic growth by further tightening its monetary policies.

A downturn in domestic consumption in China because of higher interest rates would further erode our export prospects.

The Korean government and local companies alike must therefore come up with contingency plans that will help offset any negative effects from a slowdown in the Chinese economy.

At this point it remains unclear as to how China’s moves will affect foreign exchange rates. Some observers believe the increase will push the yuan higher, citing the possibility of larger inflows of foreign capital as investors seek higher returns. Others think it was simply an isolated move by Beijing authorities to eschew international pressure to allow the yuan to appreciate. Either way, the global conflict over currency policies likely won’t end until China makes a move with the yuan. Volatility in foreign exchange markets will persist, which could wreck havoc on global financial markets.

A small liberalized market like ours is extremely vulnerable to dramatic foreign capital swings and volatility in foreign exchange rates. It’s time for authorities to deliberate on ways to control speculative capital movements. Financial and monetary authorities should keep their eyes wide open and act flexibly and in a timely manner to fend off external risks and volatility.
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