Central bank raises rates by a record half point as inflation rages

Finance

Published: 13 Jul. 2022, 15:36 Updated: 14 Jul. 2022, 11:11

Central bank raises rates by a record half point as inflation rages

Bank of Korea Gov. Rhee Chang-yong speaks at a press conference held in central Seoul on Wednesday. The bank's Monetary Policy Board raised the base interest rate by a 50 basis points on the day. [BOK]

The Bank of Korea raised the base interest rate by a historic 50 basis points to 2.25 percent on Wednesday.

It was a unanimous decision by the Monetary Policy Board and comes as Korea battles high inflation and a weak currency in the context of high debt, a shaky property market and a tapped out consumer.

Central bank governor Rhee Chang-yong took a moderately hawkish tone at a press conference held that day in central Seoul. Despite the warning signs in the economy, and talk of recession in other countries, he indicated that more increases could be coming over the course of the next few meetings.

He added that talks on a currency swap with the U.S. Treasury Secretary Janet Yellen will be unlikely during their meeting in Seoul next week, but said ways to stabilize the foreign exchange market may be discussed between Yellen and Finance Minister Choo Kyung-ho.

The won is trading near a 13-year low as rates in the United States increase rapidly and investors flee to higher yields and safer bets, though the won rallied as much as 0.8 percent since yesterday's low.

Wednesday's rate rise is the first 50-basis-point increase by the central bank ever and is the third consecutive rate increase this year. The rise was forecast by many analysts, as central bankers are working to battle high inflation.

The governor recognized that he faces the challenge of both rising prices and slowing growth.

"Downside risks for the economy grew inside and outside Korea, but inflation persists," Rhee said, citing the Ukraine-Russia war and the steep rise of energy prices.

"Preemptive policy is more important to prevent the fixation of high inflation as short-term inflation expectations are also growing rapidly," the Monetary Policy Board said.

The governor noted that 2.25 percent "is the lower part of the neutral rate," and suggested 2.75 to 3 percent by the year end is "a reasonable expectation at this point."

"I believe raising the rate one or two more times cannot be seen as monetary tightening," he added.

The Wednesday rate increase was the sixth in the current round of monetary tightening, which began in August last year. Rate increases followed in November, January, April and May.

The central bank has repeatedly signaled aggressive rate increases, saying that curbing inflation is currently the bank's focus and that rates are still low.

Inflation hit 6 percent in June, the highest since 6.8 percent hit in July 1998. Rhee said full-year inflation may exceed the 4.5-percent projection made in May, adding inflation is forecast to peak out in the third or the fourth quarter.

A hawkish Fed has been pressuring the Bank of Korea.

The Fed voted to raise its rate by 75 basis points in June. It was the biggest increase since 1994. Federal Reserve Chair Jerome Powell in June indicated that another 75-basis-point rate increase could be possible this month.

The next Federal Open Market Committee meeting will be held on July 26 and July 27.

On the same day as the rate increase, the Bank of Korea announced that Rhee and Yellen will meet at the Bank of Korea office in central Seoul during her visit to Korea on July 19.

"A currency swap between Korea and the United States will not likely be a topic during our meeting because it's the role of the Fed, not Department of the Treasury," he noted.

"The talk is expected to be naturally discussed between Finance Minister Choo Kyung-ho and Secretary Yellen," he added

Korea had a currency swap deal with the United States from March 2020 to the last day of 2021. A new arrangement was a possible agenda item when U.S. President Joe Biden visited Korea in May, but the Korean government said it was not the right time as fundamentals were strong.

Rhee and Yellen are scheduled to discuss the global economy, financial markets and cooperation on economic policies, the bank said. Yellen also plans to meet with Bank of Korea female workers and send a message encouraging them under the theme of "Women in Economics."

Yellen is paying a two-day visit to Korea through July 20 as part of her Asia visit after attending the G20 Finance Ministers and Central Bank Governors Meeting in Bali, Indonesia on July 15 and 16.

BY JIN MIN-JI [jin.minji@joongang.co.kr]