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A belated rate cut

Published: 17 Oct. 2014, 07:04

The Bank of Korea cut the base interest rate by 25 basis points for the second time in two months to bring the key rate to a record-equaling low of 2 percent amid worsening economic prospects. The last time the benchmark interest rate was so low was from February 2009 through June 2010, during efforts to strengthen the economy in the wake of the global financial crisis in late 2008. The BOK shaved the interest rate after it downgraded this year’s economic growth forecast to 3.5 percent from 3.8 percent due to a slow recovery in the global economy. The decision comes after Choi Kyung-hwan, deputy prime minister for the economy, urged additional easing due to lackluster improvement in domestic demand, despite expansionary fiscal actions.

The central bank had been hesitant about further easing due to concerns that a lower interest rate could spur more household debt, which is already at a dangerously high level. With a super-strong U.S. dollar and a weak Japanese yen, low returns could cause foreign investors to shun the Korean market. Nevertheless, the BOK took the risk, judging that reversing the stubborn slump in domestic demand is more urgent for the time being than the risk of higher household debt and capital flight. The benefits of the rate cut might have been more productive earlier. Preemptive easing early this year could have accelerated demand without the possibility of those negative side effects.

Worse, the BOK showed itself as being pressured by the government and market. While it stood pat on rates, bond yields moved in the opposite direction of the global trend and out of sync with the government’s macroeconomic policy. Meanwhile, the BOK lost credibility because of its obsession with inflation and sovereignty in monetary policy. Yet inflation has been hovering in the neighborhood of 1 percent, far below the central bank’s target range of 2.5 to 3.5 percent. Some are even sounding an alarm about the possibility of deflation. The central bank’s independence was also compromised by its out-of-sync policy direction. Central banks around the world have turned to unconventional monetary strategies, including quantitative easing and zero interest rates, to stimulate demand and growth instead of defending consumer prices. The BOK should read the changing times and exercise flexibility to strengthen its monetary role.

JoongAng Ilbo, Oct. 16, Page 38