Central bank finally cuts rate after seven months

In a surprise move, the Bank of Korea yesterday cut its key interest rate by a quarter of a percentage point to 2.5 percent, its lowest level since December 2010. The key rate had been 2.75 percent since it was lowered from 3 percent in October.

Central bank Gov. Kim Choong-soo has been reluctant to cut the benchmark. “Even lowering it 0.5 percentage point last year was a huge step,” Kim told reporters in New Delhi last week while attending the Asia Development Bank’s annual meeting. “Korea doesn’t have a key currency like the United States or Japan. How far should we have to go [in lowering the rate]?”

Even market experts were expecting the BOK to keep the interest rates at 2.75 percent, especially in light of the central bank’s relatively optimistic forecast for a mild recovery in both the global and domestic economies in the second half of 2013.

Some even suggested that if Kim lowered the rate it would be because of politics more than economics.

“When simply looking at the economic situation, the probability of lowering the benchmark rate is low since the Korean and global economies are on a mild recovery course,” said Jeong Yong-taek of KTB Investment & Securities ahead of yesterday’s BOK monetary policy committee meeting. “However, the monetary policy meeting is being held while President Park, who is putting a lot of emphasis on the economy, is visiting the United States.”

The BOK governor’s change of heart came against the backdrop of European, Australian and Polish central banks lowering their rates and the National Assembly approval of the supplemental budget earlier this week.

“The difference from April is the European Central Bank’s interest rate decision and the supplemental budget,” Kim said yesterday.

“We believed the central bank should also take part in the government and National Assembly’s effort to boost the economy.”

Though the BOK has been under government pressure to act, the governor stressed that the bank’s priority is stabilizing inflation and its decisions are not influenced by external factors.

“In the past three years [since becoming BOK governor], I have never considered outside factors when making policy decisions,” Kim said last month. “As a result, sometimes [the decisions that I make] do not agree with some expectations.”

Additionally, the governor stressed that monetary policy is not a cure-all for the economic crisis. Even in New Delhi, Kim said the central bank has fulfilled its role of setting the conditions for economic recovery and that it was up to the government for the move ahead.

Yet at yesterday’s press conference, the governor emphasized there is no disagreement between the bank and government, which are both working toward a common goal.

The governor said loosening the monetary policy creates a basis for maximizing the effect of the supplemental budget.

Lawmakers on Tuesday night passed the 17.3 trillion won ($15.8 billion) supplemental budget bill intended to boost the economy. Of the total, 12 trillion won will be used to cover the expected tax shortfall; the remaining 5 trillion won is earmarked for stimulus, including employment in the public and welfare sectors.

Last week, the European Central Bank lowered its benchmark rate for the first time in 10 months by a quarter of a percentage point to a new low of 0.5 percent. India also cut its rate to 7.25 percent.

This week, the Australian central bank cut its interest rate 0.25 percentage point to a record low of 2.75 percent. Then the National Bank of Poland slashed its key rate 0.5 percentage point to 3 percent.

Among the 34 members of the Organization for Economic Cooperation and Development, or OECD, 23 have lowered interest rates since October.

Although the central bank remained optimistic about mild recovery during the rest of the year, several market experts say indications are otherwise.

“We believe the significant decline in March industrial production and relatively weak exports in April increase the chances of renewed weakness in second quarter GDP growth after the pick-up in the first quarter,” said Yoon Eun-hye, economist at Standard Chartered. “Domestic demand indicators were also weak, with the exception consumer-goods sales, but weakness in investment indicators was more severe.”

The Ministry of Strategy and Finance projects 2.3 percent economic growth this year, while the BOK predicts a 2.6 percent expansion.

“The lowering of interest rates by other countries was also one of the factors taken into consideration,” Kim said. “The psychological factor is important, and we have lowered the interest rate to improve this factor.”

The governor said he believes the lower interest rate will help boost economic growth by 0.2 percentage point this year and 0.3 percentage point in 2014.

Only one member of the bank’s seven-member monetary policy committee opposed yesterday’s rate cut. Last month, three of the members voted for lowering the key rate and the rest, including the governor, voted no.

By Lee Ho-jeong [ojlee82@joongang.co.kr]