MNI BOK WATCH: 25bp Hike Expected, Tightening Pause On Radar

The Bank of Korea is expected to raise its Base Rate by 25bp to 3.5% at Friday's meeting, steering it to a level cited by Governor Rhee Chang-yong as a possible peak rate, as policymakers prioritise fighting inflation despite a slowing economy.

Likely taking cumulative monetary policy tightening to 300bp since August 2021, a few board members may call for a pause in the rate hiking campaign after Friday's expected hike amid growing concerns about the growth outlook as the slowing global economy weighs on exports. Some economists have argued to keep the rate steady at 3.25bp given inflation is slowing and growth is set to weaken. The BOK hiked 25bp at its last meeting in November, saying the increase was "warranted" as inflation was "substantially" above its target level. (See MNI BOK WATCH: Hikes 25bp, Flags More To Come As GDP, CPI Cut)

South Korea’s consumer price index rose 5.0% y/y in December, unchanged from 5% y/y in November and down from its peak of 6.3% y/y in July.

“The BOK will likely raise the rate by 25 basis points this week as the bank has put a high priority on inflation rate. The headline CPI is expected to slow further but core CPI is accelerating, indicating the bank needs to raise the rate,” Kota Hirayama, senior economist in charge of emerging economies at SMBC Nikko Securities, said. Hirayama said the focus is on whether Governor Rhee will maintain a tightening stance or signal a pause at Friday's press conference.

Governor Rhee identified 3.5% as a possible peak rate at a conference in November, but added that could change depending on economic conditions. He has voiced concerns over the pace of monetary tightening amid rising credit stress in the corporate bond market.

WAIT AND SEE

A person who is familiar with South Korea economy and financial conditions said the BOK is expected to take a wait-and-see attitude after raising the policy rate this week. “The currency remains solid but the implied volatility remains high, indicating concern over a weaker currency. The BOK needs to follow the rate hike by the Federal Reserve to prevent the current from falling,” the person said.

A stronger won will support the BOK in fighting inflation but the bank is worried about the risk of weaker currency due to a widening interest rate gap with the U.S. The currency traded at around KRW1239.68 against the U.S. dollar on Tuesday, after falling to KRW1440 in late September to its lowest level since March 2009. (See KRW : Won Outperformance Persists On Equity Rebound/Strong Portfolio Inflows)

The weaker outlook for South Korea's exports amid slower global economy may prompt the BOK to pause the rate hike after this week meeting. South Korea’s exports fell 9.5% y/y in December, the third consecutive drop, following a 14% y/y decline in November.

Hirayama said that the downside risk to the economy is strengthening but the BOK still places emphasis on fighting inflation. “The focus is how the BOK will ease its credit grip after ascertaining slowing inflation rate or the bank will be worried about weaker economy,” he said.