BOK admits low inflation a threat

The Korean central bank for the first time has acknowledged the risks low inflation might pose to the economy next year.

“There is a possibility that economic activity could slow if inflationary expectations are lowered,” the Bank of Korea said in a statement released yesterday. “We will cautiously monitor the situation as the low inflationary situation could continue,” it added.

The central bank, however, noted that the current situation is not due to a serious drop in demand, rather it is the result of temporary abundant supply as well as government policies such as free childcare.

It once again projected that the low inflationary situation would gradually improve.

In other words, the central bank argues the reason behind inflation below its 2.5 percent to 3.5 percent target range for this year is mainly because produce prices have stabilized thanks to favorable weather conditions, while global raw material prices have kept prices of processed goods at a reasonable level.

The statement was released after the Korean central bank’s monetary policy committee met yesterday and decided to keep the inflationary target at 2.5 percent to 3.5 percent for next year.

The statement acknowledging the possible negative impact of long-lasting low inflation comes at a time of intensifying debate about whether Korea has entered a deflationary period similar to the one Japan has suffered through for decades.

Several think tanks have argued the central bank should further lower the benchmark interest rate to boost the economy, especially since the U.S. central bank has decided to start cutting back its stimulus program.

Until recently, the central bank rejected the possibility of deflation and while acknowledging the inflation rate has remained low for longer than expected, insisted it is only temporary.

BOK Gov. Kim Choong-soo on Dec. 19 said that while consumer price growth remains below the central bank target, it was inappropriate to say the country is entering a period of deflation like that of Japan. He stressed that headline inflation, which excludes agricultural produce and energy prices, was near 2 percent.
“When excluding the effect of government policies [such as numerous welfare measures, including free childcare], headline inflation will easily surpass 2 percent,” Kim added.

Despite government efforts, inflation has remained in the neighborhood of 1 percent, far below its minimum target of 2.5 percent. Such low inflation pressure has not been seen since 1999, when Korea’s economy was in one of its worst states due to an unprecedented financial crisis.

The inflation expectation has remained at 2.9 percent during the past four months. A further fall in inflation could dampen economic activities that would push down asset values as well as negatively affect consumer spending. This would eventually stall economic growth.

Although the economy has been improving since the second quarter, many think tanks say it is not enough to be considered on track to a full recovery. Especially in light of the low inflation, many consumers can’t actually feel the economy getting any stronger.

Meanwhile, a central bank report showed many listed companies suffered heavily during the third quarter as they saw revenue and profitability retreat.

In a study of 1,572 listed and 169 unlisted companies, combined revenue dropped 0.1 percent compared to the same period last year. This is a turnaround from the previous quarter, when it grew 1.4 percent year-on-year.

Electric and electronics companies saw year-on-year revenue growth fall from 21 percent a year ago to 4.7 percent, largely due to saturation in the smartphone market.

The operating profit to revenue ratio fell from 5.7 percent last year to 5.1 percent.

The central bank blamed the decline in earnings and profitability on foreign exchange rates, particularly the weak yen.

Although the U.S. Fed’s decision to cutback on its asset buying program did not affect the Korean financial market and many expect the impact to be limited, many experts in the market raised concerns of the continuing depreciation of the Japanese currency as the biggest risk to Korea’s economic growth.

BY LEE HO-JEONG [ojlee82@joongang.co.kr]