Interest rate gap may be widening with U.S.

The gap between Korea and the United States’ key interest rate could widen to 1 percentage point, possibly posing challenges for Asia’s fourth-largest economy, a local think tank said Sunday.

A report by Hyundai Research Institute (HRI) said that while the decision by the U.S. Federal Reserve to adjust its rate by a quarter of a percentage point last week will have limited direct impact, such a move can cause problems for emerging markets.

“If emerging markets are seriously affected, then Seoul could feel the pinch as well,” the report by the leading private economic institute said.

The Fed this month raised its rates to between 1.75 percent and 2 percent, higher than Korea’s base rate, which stands at 1.5 percent. It also strongly hinted that rates could be raised two more times this year in the face of strong growth, a drop in unemployment and an inflation rate that is in line with its annual targets.

If implemented, such hikes would cause U.S. rates to rise to the 2.25-2.50 percent range by the end of this year, possibly leading to a meaningful difference in rates even if the Bank of Korea marks up its rate 0.25 percentage point later in the year.

The HRI said that under such circumstances it may be advisable to raise Korea’s key rates to prevent an outflow of foreign funds, especially since foreign investors became net sellers of local stocks when the gap widened to around 1 percentage point, which was the case in 2005 through 2007.

On the overall state of the economy, it said Korea may have entered a downward trend, as can be seen by poor employment statistics.

“There is a critical need at this juncture to implement measures on a national level to bolster growth, like the use of the extra budget and better monitoring of emerging markets for signs of trouble,” it said.

YONHAP