The Monetary Policy Committee Also Worries About Expected Inflation Spillover... Will the Bank of Korea Take a Big Step?

Interaction Between Prices and Expected Inflation
Intrinsic Persistence Creates a 'Vicious Cycle'
Likely to Last Longer Than in 2008 and 2011

[Asia Economy Reporter Seo So-jeong] As U.S. consumers' inflation expectations for the next year hit an all-time high, fueling speculation that the Federal Reserve (Fed) will take a 'giant step' by raising interest rates by 0.75 percentage points at once, members of the Bank of Korea's Monetary Policy Committee (MPC) have also expressed concerns about the rapid spread of inflation expectations, drawing attention.

According to the minutes of the May Monetary Policy Committee meeting released by the Bank of Korea the day before, some MPC members pointed out that "if changes occur in the so-called inflation dynamics, where economic agents pass on cost burdens to product prices and wages due to rising inflation expectations, inflation could gain its own persistence, leading to a vicious cycle of inflation."

Inflation expectations refer to the inflation rate that businesses and households anticipate over the next year, which is highly likely to translate into actual inflationary pressure. According to the Bank of Korea's Consumer Sentiment Survey results, the inflation expectation rate in May was 3.3%, the highest level in 9 years and 7 months since October 2012 (3.3%). With the consumer price index rising 5.4% year-on-year in May, the highest in 13 years and 9 months since August 2008 (5.6%), inflation expectations have also surged, further fueling price increases.

Some MPC members assessed that "until now, Korea's inflation expectations have tended to lag actual price movements, but in the current situation where both inflation expectations and prices are rising rapidly, the price pass-through effect of inflation expectations is likely greater than before."

In particular, MPC members evaluated that this inflation is more likely to be prolonged compared to past periods of rapid price increases. In 2008 and 2011, the consumer price index rose above 4%, with inflation rates exceeding targets for about one year during both periods. One MPC member stated, "Since inflation has already continued for a year and price paths exceeding targets are expected next year as well, the duration of this inflation appears longer than in the past," adding, "There are secondary price pass-through effects due to rising inflation expectations, and structural changes such as global supply chain reorganization may continuously impact prices, raising concerns about the emergence of inflation with its own persistence."

Another member expressed concern, saying, "Although this year's consumer price inflation forecast was revised upward to 4.5%, the second-highest annual increase since the introduction of the price stability target system, upside risks to inflation still seem significant," and added, "Inflationary pressures are appearing on both demand and supply sides, with combined shocks from rising oil and food prices and depreciation of the Korean won, suggesting that the intensity and persistence of current inflation will be considerable."

As most MPC members mentioned the need to reduce the current monetary easing stance further, experts are also forecasting that the Bank of Korea may implement a big step (0.50 percentage point hike) in the second half of the year.

Professor Kim Jin-il of Korea University said, "Recently, wages have been steadily rising mainly in fixed salaries, and inflation expectations are spreading rapidly, so continuous interest rate hikes are necessary to respond." Professor Kim Sang-bong of Hansung University stated, "The actual consumer price inflation rate, including housing costs not reflected in statistics, will exceed that of the U.S.," emphasizing, "Inflation suppression through interest rate hikes is necessary." Researcher Baek In-seok of the Korea Capital Market Institute stressed, "As the likelihood of the U.S. Fed taking a giant step increases, the Bank of Korea should also prepare for a big step in the second half."

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