Bank of Korea Holds Base Rate Steady Amid Slowing Inflation and Economic Uncertainty

With inflation appearing to slow down and the economy remaining sluggish, the Bank of Korea keeps the base rate unchanged for the second consecutive time.

The Bank of Korea (BOK) has opted to maintain the base rate at 3.5 percent for a second consecutive time, as recent data suggests that inflation is slowing down while the economy continues to struggle. This decision aligns with market expectations, indicating that the BOK's 1.5-year rate hike cycle may have come to a halt.

BOK Governor Rhee Chang-yong said at a press briefing on Tuesday, "Inflation is projected to continue slowing down although it will remain above the target level for a considerable time. Uncertainties surrounding the policy decision are also judged to be high with increasing risks to the financial sectors in major countries." Rhee added that all six members of the monetary policy board agreed to maintain the current rate.

Recent figures indicate that inflation in Korea has passed its peak. The consumer price index for March revealed a year-on-year increase of 4.2 percent, marking the lowest increase since the 4.1 percent recorded in March 2022. Although the inflation rate remains above the central bank's 2 percent target, the numbers align with the BOK's projections that the inflation rate would drop below 4.5 percent in March and fall to the low 3 percent range by year-end.

However, the core inflation index, which excludes volatile food and energy prices, remains high at 4 percent in March, unchanged from a month earlier. The BOK noted that inflation in service prices has yet to decline.

Rhee stated, "Inflation is likely to slow down in the first half of this year. For the latter half of the year, uncertainties are high with the oil production cut from OPEC+, as oil prices will lead to changes in food prices and more."

Following recent bank crises involving Silicon Valley Bank and Credit Suisse, the US Federal Reserve has slowed its rate hikes, relieving the BOK of pressure to follow suit. However, the gap between the key rates of Korea and the US stands at 1.5 percentage points, a level not seen since 2000. If the US Federal Reserve raises the rate by 25 basis points in early May as anticipated, the gap will widen to an unprecedented 1.75 percentage points.

Despite concerns about potential foreign fund outflows and currency exchange market volatility due to the widened gap, Rhee assured that the market would remain stable. He emphasized that the exchange rate is not the BOK's goal but rather a cost variable in the economy, with the focus on controlling uncertainties and preventing a financial crisis.

While maintaining the base rate, the BOK continued to counter the market's dovish expectations for an early shift in its monetary policy. Rhee said it is inappropriate to discuss a rate reduction until the consumer price index drops below the low 3 percent range.

Five of the six board members maintained a hawkish stance, suggesting that Korea's terminal rate could rise to 3.75 percent in the near future due to volatility in the financial market from the oil production cut and bank collapses. The next BOK rate-setting meeting is scheduled for May 25, following the US Federal Reserve's Federal Open Market Committee meeting on May 2-3.