Fed Tightening and Supplementary Budget... Bank of Korea Likely to Raise Interest Rates Next Week Amid Rate Hike Concerns

Governor Lee Ju-yeol hints at possible base rate hike in New Year's address
Experts forecast three rate increases this year

[Asia Economy Reporter Jang Sehee] As the pace of tightening by the U.S. Federal Reserve (Fed) accelerates, the Bank of Korea's Monetary Policy Committee is increasingly likely to raise the base interest rate on the 14th. Last year’s inflation hit its highest level in 10 years, and the fact that the political sphere is actively pushing for the supplementary budget (chugyeong) also supports the Bank of Korea’s decision to raise interest rates.

A Bank of Korea official said on the 6th, "Considering the continued rise in inflation and the pace of the Fed’s base rate hikes, it seems likely that the base interest rate will be raised," adding, "The implementation of fiscal policies such as the supplementary budget will also have some impact as they partially complement monetary policy."

The timing of the first base rate hike this year has recently become more concrete. Bank of Korea Governor Lee Ju-yeol (photo) hinted at the possibility of a rate hike in January in his New Year's address, stating, "We will appropriately adjust the degree of monetary easing in line with improvements in the economic situation." Governor Lee also indicated ongoing rate hikes at a recent New Year’s meeting of the financial sector, saying, "There is a possibility of increased credit risk during the normalization process of financial easing measures."

Moreover, the Fed’s indication that it may not only raise the base rate as early as March but also engage in quantitative tightening by reducing its asset size is expected to further solidify the Bank of Korea’s decision. In this regard, foreign asset managers predict that the Fed will complete tapering in March this year and raise policy rates within a short period thereafter.

The Bank of Korea also views the ongoing discussions on supplementary budget formulation, mainly within the political sphere, as a factor supporting the base rate hike. This is because, despite increased interest burdens, a policy mix effect of government fiscal support is expected. During the first and second supplementary budgets in 2020, the Bank of Korea lowered interest rates to 0.75% and 0.50% per annum respectively to maximize fiscal effects, and in August last year, it raised rates from 0.50% to 0.75% one month after the supplementary budget. As the ruling party accelerates the supplementary budget process, forecasts suggest that the base rate will be raised first this month, followed by fiscal support measures.

A key ruling party and government official stated, "We expect the supplementary budget to be possible before the Lunar New Year," adding, "Since the 5th, we have been organizing necessary projects by standing committees." If the Bank of Korea raises rates next week, fiscal support for vulnerable groups could be provided within two weeks at the latest.

Prolonged inflation is also a consideration. Last year, the consumer price inflation rate recorded 2.5%, the highest in 10 years. Governor Lee expressed concern about the possibility of prolonged high inflation, saying, "We need to carefully examine whether the interaction between elevated prices and inflation expectations might cause the inflationary trend to last longer than expected."

Experts see the possibility of three rate hikes this year. Professor Kim Sangbong of Hansung University’s Department of Economics said, "Considering the current growth rate in the 4% range and rising inflation, the base rate could rise to 1.75%," emphasizing, "We need to respond by taking into account domestic conditions and changes in monetary policies of major countries such as the U.S." Professor Jeong Se-eun of Chungnam University’s Department of Economics also stated, "Finance is more of a market function than welfare," adding, "Since interest rates affect the overall situation and some parts have significant side effects, support for livelihood maintenance should be provided through fiscal measures."

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