What low rates mean
The Bank of Korea has cut its benchmark interest rate to 1.75 percent from 2 percent. With the decision by our central bank, the Korean economy has entered uncharted territory. The decision will influence all economic players indiscriminately, and ultra-low interest rates will demand a monumental paradigm shift from the government, households and Korea Inc.
The action by the BOK appears to be an unavoidable choice for our economy given the noticeable deterioration of various economic indices and the negative growth of consumer prices last month. The economy has suffered dwindling industrial production and exports coupled with ominous worries about deflation. Despite the government’s efforts to pump some gas into the economy through two interest rate cuts last year, the economy stopped short of any real kind of recovery. To make matters worse, a potential tornado of a super U.S. dollar is pressuring many governments to lower their rates. BOK Gov. Lee Ju-yeol said the central bank made the decision to avert a further deterioration of our growth potential.
Nevertheless, rate cuts are not a panacea. Unless the economy shows tangible signs of rebound after the cut, it could trigger unwanted side-effects. The biggest worry is our snowballing household debt, which has already soared to 1,089 trillion won ($970 billion). If debt increases further thanks to super-low interest rates, it could turn a ticking time bomb into an explosion.
Rate cuts raise the risk of a capital exodus. We have a bad memory of foreign investors heading for the exits during the 2008 financial meltdown. Considering the trajectory of speculative capital at times of financial crisis, capital outflows could occur here in June or September when the Fed is expected to lift its prime lending rate. We can hardly relax even with our relatively strong economic fundamentals.
No matter how low the rates are, money kept in company safes and household mattresses is useless. Our money multiplier for the month of January was 18.5, the lowest level since 1998. The lower the figure, the less the circulation of money. Creative ideas to expand domestic consumption and business investments are needed.
As ultra-low interest rates are a signal of our economy confronting the danger of deflation, political circles must make efforts to fundamentally change the structure of our economy. The corporate and household sectors also must reexamine their strategies to navigate an uncharted economic territory.
JoongAng Ilbo, Mar. 13, Page 30
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