No Haste on a Call Rate Cut

With the continuing downward spiral of yields on treasury and state bonds, speculation is rife as to whether the government will announce a decision to lower the call rate at the next Monetary Board meeting scheduled on Thursday.

This is of great interest especially since the local stock market has recently regained momentum, resulting from the government''s decision to increase spending, as well as the U.S. government''s decision to lower short-term interest rates. As yields on three-year treasury bonds dropped to 6.19 percent last weekend, nearing the lowest-ever yield rate of 5.90 percent, and with local commercial banks lowering their savings rate to match falling market rates, hopes for an interest rate cut are growing.

The government, which is encouraging an early call rate drop, actually wants relief from the liquidity squeeze in the current money market. The government''s top priority is the revival of the stock market, hoping that a bull market would, in turn, resolve the credit crisis in the business sector. Thus, a lowering of the call rate would be a big gain for the stock market, adding further momentum to the current surge.

There are, however, some skeptics who do not think a fall in the call rate would help resolve the current liquidity squeeze. They maintain that the root cause of the credit crisis is general uncertainty in the Korean economy and the reluctance of banks to make loans to companies with poor credit worthiness － not high interest rates or the fund shortage in the market. They contend that decisive and swift industrial restructuring is a better way to resolve the current credit situation.

Furthermore, the threat of renewed inflation is another possible spinoff from a call rate cut. This threat is a real one in that prices are currently being curbed and foreign currency rates in the market are rising, with an interest rate cut possibly triggering inflation.

On this point, some argue that a rate cut might not be a factor in causing inflation since domestic consumption is already in deep recession, with the gap between long-term and short-term interest rates significantly reduced by the cut in treasury and state bond yields.

In view of all this, it is undeniable that South Korea needs certain economic stimulation measures. In contrast to the unemployment rate and inflation, boosting and restructuring the nation''s economy simultaneously are two goals that can be pursued in line with our planned economic policies.

We believe a bank-rate policy is better than a financial policy, simultaneously reviving and restructuring the economy. The question is whether the market will respond willingly to the government''s policy.

Monetary policy, unlike financial policy, cannot produce results if the market does not respond to the policy at the right time and in the right way. But the current administration has failed to earn enough credibility to produce this response. This is why a cut in interest rates is worrisome, even as we agree that it is necessary.

Some measures to revive the junk bond market have to be mapped out, along with a rate cut. While calculating the merits and demerits of a rate cut, we need to carefully determine the scope and timing of the rate cuts with more hearings and discussions.