Bank of Korea Governor Lee Chang-yong: "Emerging Economies with High Economic Uncertainty Must Have Sophisticated Forward Guidance"

Governor Lee Chang-yong Attends US Jackson Hole Symposium

Lee Chang-yong, Governor of the Bank of Korea, is attending a press conference held at the Bank of Korea in Jung-gu, Seoul, on the morning of the 25th, explaining the base interest rate hike and other matters. (Photo by Bank of Korea)

Lee Chang-yong, Governor of the Bank of Korea, recently emphasized that as global economic uncertainty increases, the monetary policy capabilities of emerging countries such as Korea and China are becoming even more important. In this context, he stressed that emerging countries must strive to establish sophisticated policy frameworks like scenario-based traditional forward guidance.

Governor Lee made these remarks on the 27th (local time) as a panelist in a session discussion at the Jackson Hole meeting held in Wyoming, USA. The Jackson Hole meeting is a symposium hosted annually in August by the Federal Reserve Bank of Kansas City in Jackson Hole, Wyoming. This was the first time a Bank of Korea governor participated as a session presenter at the Jackson Hole meeting.

On that day, Governor Lee spoke about central banks' forward guidance in a presentation titled "Lessons from Unconventional Monetary Policy for Emerging and Small Open Economies." He noted that during the COVID-19 crisis, advanced countries significantly expanded central bank assets, but in the process, weaknesses such as economic agents finding it difficult to predict policy changes due to issues with forward guidance were also exposed.

Forward guidance refers to a communication tool through which central banks signal the future direction of monetary policy based on their assessment of upcoming economic conditions. Governor Lee cited past expressions by the Federal Reserve (Fed) such as "at least until mid-2015" or "as long as the unemployment rate remains above 6.5%" as examples of unconventional forward guidance indicating prolonged low interest rates.

He explained, "If excessive simplification in central bank communication causes the market to underestimate uncertainty, it becomes difficult for the central bank to implement exit strategies." He cited the 2013 taper tantrum as an example, where despite the Fed's cautious mention of policy shifts and modest tapering, the market overreacted, triggering turmoil in financial markets.

Governor Lee also pointed out that such monetary policies in advanced countries have side effects, including central banks striving to maintain existing forward guidance out of concern for credibility loss. He assessed, "The difficulties central banks have faced during the recent transition from low inflation to high inflation may partly stem from this rigidity, which delayed policy shifts."

He mentioned that the recent discontinuation of forward guidance by major central banks might also be due to these shortcomings of unconventional forward guidance, which holds significant implications for emerging countries like Korea and China. He emphasized, "For emerging countries, where external uncertainty is high, the need to respond flexibly to rapid changes in economic conditions is even more critical. Therefore, unconventional forward guidance, which greatly restricts the flexibility of exit strategies, is unlikely to be an ideal policy tool for emerging countries."

As an alternative to unconventional forward guidance, Governor Lee suggested "scenario-based traditional forward guidance." For example, last year, when opinions diverged globally on the persistence of inflation, if central banks had provided forward guidance by dividing scenarios into "long-lasting inflation" and "temporary inflationary pressures," it would have been more effective.

He said, "If forward guidance had acknowledged uncertainty in this way, it could have helped facilitate a more flexible policy response during the recent transition from a low inflation phase to a high inflation phase."

Governor Lee then cited the forward guidance shown by the Bank of Korea after its first-ever "big step" (a 0.50 percentage point increase in the base interest rate) last month. At that time, the Monetary Policy Committee's official statement only mentioned the need to continue the rate hike trend regarding the future monetary policy path, but in the subsequent press conference, Governor Lee added the condition "if domestic inflation trends do not significantly deviate from the forecast path," stating that rates would be raised by 0.25 percentage points for the time being.

Regarding this, Governor Lee explained, "After internal discussions, the Bank of Korea adopted a kind of compromise. This approach was intended to provide the minimum forward guidance the market desired while securing flexibility in future monetary policy operations."

Governor Lee concluded by emphasizing, "Emerging countries must strive to establish more sophisticated policy frameworks such as scenario-based traditional forward guidance. For emerging and small open economies to develop unconventional policy tools optimized for their respective conditions and needs, central banks require analytical capabilities, accumulated experience, and extensive research. Now is precisely the time to invest in these areas."

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