Corona-driven era of 0% interest rates... Concerns over real estate concentration phenomenon

Bank of Korea Holds Emergency Monetary Policy Meeting for First Time in 12 Years
Base Rate Cut from 1.25% to 0.75%

Measure Taken Considering April 17th Supplementary Budget Passed by National Assembly and US 0% Interest Rate
Concerns Over Side Effects Such as Real Estate Speculation

[Asia Economy Reporter Kim Eun-byeol] The Bank of Korea (BOK) has ultimately decided to take an 'unprecedented path.' To contain the novel coronavirus disease (COVID-19) crisis, it joined global central banks, including the U.S. Federal Reserve (Fed), in coordinating monetary easing policies. Initially, the BOK's executive board was skeptical about whether a rate cut could mitigate the economic damage caused by COVID-19. However, after the Fed abruptly cut its benchmark interest rate by 100 basis points (1bp = 0.01 percentage points) on the 15th (local time), the BOK appears to have followed suit. Given that the supplementary budget bill (추경) was expected to pass the National Assembly, this move also signaled alignment with government policies. Nonetheless, how the BOK will minimize the side effects of the rate cut, which it had expressed concerns about multiple times, remains a challenge.

◆ No more reasons to hold back on rate cuts = Initially, the BOK believed that simply cutting interest rates would not be sufficient to resolve the COVID-19 crisis. However, as COVID-19 spread to the U.S. and Europe, causing turmoil in financial markets, the BOK began to consider the rate cut option. The New York stock market plunged sharply, unsettling global financial markets, and foreign investors sold off funds from the KOSPI amid growing fears of a COVID-19 pandemic. With financial markets experiencing extreme volatility, the BOK judged that it needed to pursue bold rate cuts to stabilize the market.

The deteriorating domestic real economy also made it impossible to stand by any longer. As the COVID-19 crisis prolonged, self-employed individuals and small and medium-sized enterprises (SMEs) were crying out for help, prompting the decision to ease their interest burdens through rate cuts.

[Image source=Reuters Yonhap News]

In particular, the Fed's faster-than-expected and substantial rate cut strengthened the BOK's decision. Initially, the BOK planned to cut rates around the 17th, when the supplementary budget bill was expected to pass and the U.S. Federal Open Market Committee (FOMC) meeting was scheduled for the 17th-18th (local time). However, since the U.S. had already cut rates and considering the urgency of the situation and the smooth passage of the supplementary budget, there was no longer any reason to delay the rate cut. Given that the Monetary Policy Board did not cut the benchmark rate at the end of last month, leading to criticism of 'missed opportunity,' there was even less reason to postpone the rate cut.

◆ Bold 50bp 'big cut' implemented = The BOK, like the Fed, implemented a 'big cut.' It lowered the rate from 1.25% to 0.75% in one go. As a result, the BOK's benchmark interest rate entered the 0% range at once. Despite the burden of a sub-1% rate, the BOK boldly cut rates due to the expected market impact. Economic experts had previously assessed that a 25bp rate cut before the emergency Monetary Policy Board meeting would have minimal effect. This also suggests that the economic damage caused by COVID-19 was judged to be severe.

In its monetary policy statement, the Monetary Policy Board said, "Since the last monetary policy decision, COVID-19 has spread globally, intensifying concerns about a global economic slowdown. Additionally, as a result, volatility in key price variables such as stock prices and exchange rates in domestic and international financial markets has significantly increased, and international oil prices have sharply declined." It added, "Accordingly, the Board judged that it is necessary to expand the degree of monetary policy easing to alleviate financial market volatility and reduce the ripple effects on growth and inflation."

It also emphasized, "Given the very high uncertainty in domestic and international financial and economic conditions, the Board will continue to operate monetary policy accommodatively to mitigate downside risks to the macroeconomy and financial market volatility."

◆ Concerns remain over side effects such as liquidity concentration in the real estate market = However, the liquidity concentration in the real estate market, which the BOK has repeatedly pointed out, remains a concern. One of the reasons the BOK hesitated to join the rate cut trend among major countries until the last moment was the real estate market. On the 12th, the BOK mentioned in its 'Monetary and Credit Policy Report,' which explained the reasons for holding rates on the 27th of the previous month, that "the increase in household loans remains high, and it is necessary to observe further whether housing prices will stabilize following government real estate measures." The BOK's previous focus on targeted support rather than rate cuts was largely due to this reason.

Another concern for the BOK is that despite a sharp increase in private sector loans, including households and businesses, since 2018, this has not translated into consumption and investment. Although a large amount of money has been injected into the market due to the low-interest-rate environment, the velocity of money circulation is slowing, meaning that even if the central bank injects more funds, the effect is limited.

Therefore, along with the rate cut, the BOK decided to lower the interest rate on the Financial Intermediation Support Loan (금중대), which it had promoted as 'targeted support,' from 0.50-0.75% per annum to 0.25% per annum. The Financial Intermediation Support Loan is a system where the BOK provides low-interest funds to financial institutions for loans to SMEs. The BOK had already increased the limit from 25 trillion won to 30 trillion won to help SMEs facing operational difficulties due to the spread of COVID-19.

The BOK stated, "This measure is expected to enhance banks' incentives to lend to SMEs and contribute to reducing borrowing companies' interest burdens and improving their financial conditions." It explained that since the support interest rate for local SMEs and COVID-19-affected companies is being lowered more significantly (from 0.75% to 0.25% per annum), the financial support effect for these companies is expected to increase.

To manage liquidity, the BOK also decided to include bank bonds in the securities eligible for open market operations. The BOK explained the expansion of eligible securities by saying, "With increased volatility in domestic and international financial markets, there is a possibility that financial institutions may face difficulties in raising funds due to heightened credit risk concerns." It added, "As the shock to the real economy gradually intensifies, it is necessary to expand channels for financial institutions to quickly secure required funds to support affected companies."

This content was produced with the assistance of AI translation services.