A First Drop in South Korean Prices Would Flag Deflation Risk

Bookmark

(Bloomberg) --

South Korean consumer prices likely dropped for the first time in September, raising the specter of deflation for a nation struggling with falling exports and cooling household demand.

Inflation data on Tuesday is expected to show consumer prices fell 0.3% from a year earlier, according to economists surveyed by Bloomberg. Prices were essentially flat in August and have decelerated from a gain of 0.8% in January.

South Korea has long grappled with below-target inflation, but unlike its neighbor Japan, it has managed to stave off falling prices and the longer-term problem of deflation. Some economists define deflation as two consecutive quarters of dropping prices, so even if Korea’s prices fell in September it doesn’t mean the economy is afflicted with the malaise yet. That’s a view that policy makers in Seoul are keen to make as they insist the September data will represent more of a blip than a trend.

A First Drop in South Korean Prices Would Flag Deflation Risk

Yet, the latest indicators show the risk of a fall into deflation is greater than ever, with weak economic growth dampening prospects for demand-led inflation. Negative inflation for September would increase calls for more policy action from the Bank of Korea, including rate cuts.

Producer prices, which tend to presage movements in headline inflation, have fallen two months running. Exports are headed for a 10th monthly slump, squeezing corporate profits and weighing on wages and consumption, and industrial output dropped in August the most in six months, the government reported Monday. Economists forecast gross domestic product will expand at the slowest pace in a decade in 2019 as trade feuds damp global growth.

Read More: S. Korea Fiscal Stimulus, BOK Rate Cut Are Trade War Defenses

Unusually high food prices last year are part of the reason for soft inflation numbers now, a factor that has given government officials reason to downplay the risk of deflation. The central bank says inflation will rebound to the 1%-level next year, once those base effects disappear. A measure of prices that excludes food and energy has hovered around 1% so far this year, indicating some resilience in the underlying inflation trend.

“It’s true many people are concerned about deflation,” BOK Governor Lee Ju-yeol told reporters on Friday. “But if we’re looking at whether or not it’s deflation in the strict sense, signs don’t point to it yet.”

Still, South Korea’s aging population and a declining potential growth rate are two structural factors pushing the economy toward deflation in the longer-term.

In the short term, a combination of falling import prices and slumping domestic consumption are to blame for weakness in inflation, Hyundai Research Institute said in a Sept. 20 report, pointing to “steadily increasing odds of deflation.” The GDP deflator, a measure of inflation in domestically produced goods and services, has dipped below zero for three consecutive quarters through June.

South Korea’s headline inflation has trailed the central bank’s 2% target every month this year and for most of 2018. The BOK cut its key interest rate to 1.5% in July but held pat in August. Most economists see another reduction in October or November to 1.25%, with some seeing the bank easing to 1% or even 0.75% next year.

“If inflation is high blood pressure, deflation is like hypothermia,” said Cho Dong-keun, an honorary professor of economics at Myongji University. “South Korea’s economy is clearly hitting a low point and will probably stay there and that can lead to deflation.”

©2019 Bloomberg L.P.

BQ Install

Bloomberg Quint

Add BloombergQuint App to Home screen.