Bank of Korea Considers Timing of Next Hike After Standing Pat

(Bloomberg) -- Bank of Korea Governor Lee Ju-yeol gave his strongest signal yet that a rate hike is likely in the works for November as he flagged worsening financial imbalances, growing inflationary pressures and solid recovery momentum.

The central bank’s decision to hold rates at 0.75% earlier Tuesday was opposed by two members who called for a back-to-back increase following August’s liftoff. Dissension on the board typically comes before a BOK policy move and the latest example pushed up South Korean bond yields.

“We held the rate this month, but we will look into whether to raise the rate again next month while watching the situation,” Lee said. “If the situation doesn’t deviate too much from the one the board is looking at, it’s the view of the majority today that it will be good to consider an additional hike.” 

The BOK’s determination to pursue higher rates puts it at the forefront of the region’s monetary tightening, with New Zealand the only other developed Asian nation to have raised interest rates. Still, the BOK will keep a close eye on Federal Reserve policy and any tapering moves as it plots its rate path and ensure it doesn’t trigger market volatility by moving too fast.  

“Lee has grown increasingly confident that the economy can withstand another hike, mostly picking indicators that shore up his view,” said Roh Hyun-woo, a strategist at Hanwha Asset Management. “He has offered as strong a signal for a hike at the next meeting as he could.”

The governor also said borrowing costs were still well below a neutral rate for the economy and indicated that one hike by itself wasn’t enough to deal with the financial imbalances that are the main concern for the central bank. 

Lee said risk-taking and excessive leveraging have continued despite macroprudential regulations, and said monetary policy needs to move in tandem if there is to be an impact. 

The housing market rally has been a particular concern for policy makers as it’s built on leverage and is at risk of a sharp correction should shocks emerge. The BOK sees debt bubbles as a threat to long-term economic growth.    

Continued strength in the recovery of Korea’s economy is giving the BOK confidence that it can crack on with policy normalization. The central bank maintained its view that the economy will expand 4% this year. 

Even with local outbreaks, consumption will improve on the back of rising vaccinations, Lee said. While acknowledging external headwinds from supply chain woes and China risks, Lee said the global recovery would continue as economies reopen. 

Inflation is also providing a reason for the BOK to act sooner rather than later. The BOK expects price gains to run at the mid-2% level for some time before cooling. 

What Bloomberg Economics Says.. 

“With financial imbalances continuing to swell, growth momentum holding up and inflation above target, conditions are ripe for another 25 basis point rate increase this year.”

-- Justin Jimenez, Asia Economist

For the full report, click here. 

Swap markets show bets for two quarter-percentage-point hikes within six months. With a November hike in sight, complicating rate projections beyond that would be Lee’s term which ends in March 2022.  

Korea’s government bonds reversed gains and fell following the governor’s briefing. The three-year yield jumped nine basis points to 1.79% as of 1:19 p.m. in Seoul.  

The won was down 0.4% at 1,199.65 per dollar, after briefly slipping below its key 1,200 level earlier. Lee said the bank can take appropriate steps should market volatility rise. 

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