[Bank of Korea Communication Report] "Long-term Interest Rate Rise Has Limited Negative Impact on Real Economy"

Bank of Korea 'Monetary and Credit Policy Report (June 2021)'
Limited Impact of Rising US Long-term Interest Rates on Korea

[Asia Economy Reporter Eunbyeol Kim] The Bank of Korea expects that although domestic long-term interest rates (10-year government bond yields) have been rising continuously since July last year, the negative impact on the real economy will not be significant. It also sees little likelihood of a massive outflow of funds from domestic stock and bond markets due to the rise in U.S. long-term interest rates. However, it added that attention should be paid to the possibility that increased market volatility caused by rapid capital outflows from emerging markets could spill over into domestic foreign exchange and financial markets.

In the 'Monetary and Credit Policy Report (June 2021)' released on the 10th, the Bank of Korea stated, "Since the main background of the recent rise in long-term interest rates is the improvement in macroeconomic conditions, the tightening effect on the real economy is expected to be limited."

The yield on Korea's 10-year government bonds has been on an upward trend since the end of July last year (lowest point 1.28%), with the pace of increase accelerating somewhat this year, fluctuating above 2% since March. The Bank of Korea explained that this was influenced by improvements in domestic and international macroeconomic conditions, changes in monetary policy expectations, increased government bond issuance, and rising yields on major countries' government bonds.

The Bank of Korea analyzed, "Although the rise in long-term interest rates is fundamentally a financial tightening factor, when the economy is rising simultaneously, the increase in real long-term interest rates is limited due to factors such as inflation. As economic agents' risk appetite continues along with economic growth, consumption and investment increase, which can largely offset the tightening effect of rising long-term interest rates on the real economy."

Even after the rise in long-term interest rates, corporate and household credit continues to grow at a high rate despite relatively small increases in loan interest rates, and the Financial Conditions Index (FCI) continues to show an easing trend, indicating that overall financial conditions remain accommodative. The Bank of Korea noted, "During past periods of rising long-term interest rates, recovery in consumption and investment proceeded rapidly, generally leading to an expansion in growth."

Regarding the rise in U.S. long-term interest rates, the Bank of Korea acknowledged that it acted as a factor for capital outflows from securities in major emerging markets and increased external financing costs but viewed its impact on Korea as limited.

Concerns have persisted about the possibility of foreign securities capital outflows from emerging markets and deteriorating U.S. dollar funding conditions as the U.S. 10-year Treasury yield rose sharply. In fact, the inflow of foreign securities capital into major emerging markets slowed significantly in February and March as U.S. long-term interest rates rose rapidly. Substantial foreign securities capital outflows occurred in Taiwan, South Africa, Mexico, and Indonesia. Amid these concerns, some emerging market central banks, including Turkey, Brazil, and Russia, raised policy rates to counter inflation and foreign securities capital outflows.

The Bank of Korea stated, "Even during the sharp rise in U.S. long-term interest rates in February and March this year, a considerable amount of foreign securities investment capital flowed into Korea, indicating that the impact of the rise in U.S. long-term interest rates on capital flows is limited." However, it added, "Attention should be paid to the possibility that increased market volatility caused by rapid capital outflows from emerging markets could spill over into domestic foreign exchange and financial markets."

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