Expectations for a Soft Landing Fade... BoK's Monetary Policy Committee May Take Another Big Step Next Month

Bank of Korea Expected to Take Big Step on 12th
Major Countries' Monetary Policies and Inflation Indicators Considered
Big Step Anticipated Again Next Month

[Image source=Yonhap News]

[Asia Economy Reporter Minji Lee] Expectations for a soft landing of interest rates must be boldly set aside. This is because the Bank of Korea's aggressive moves to raise interest rates are expected to continue next month. To stabilize prices and reduce financial market instability, a big step in line with global central banks is inevitable.

According to the financial investment industry on the 11th, a big step of raising the base interest rate by 50bp (1bp=0.01 percentage point) at once is expected at the Bank of Korea's Monetary Policy Committee (MPC) meeting scheduled for the 12th. With this increase, the domestic base interest rate will rise to the 3% range. Previously, Lee Chang-yong, Governor of the Bank of Korea, had stated, "We will basically raise rates by 25bp, and big steps will only be taken in very special situations." However, after last month's U.S. FOMC (Federal Open Market Committee) meeting, as the Fed tightened its grip on rate hikes, Governor Lee mentioned a 'changed situation,' hinting that a big step would be taken at this month's MPC meeting.

The problem is that this month is not the end. There is growing support for the view that a big step will also be taken at the last MPC meeting of the year scheduled for next month. The market expects the year-end base interest rate to be 3.5%. Reflecting rate hikes through the first quarter of next year, it is forecast to ultimately rise to around 3.75%.

The main basis is that key U.S. economic indicators, which could influence the November FOMC meeting, came out strong. In the September U.S. employment report, the unemployment rate was recorded at 3.5%, lower than last month's 3.7%. Despite the Fed's explosive rate hikes, the unemployment rate did not rise. Wall Street expects that based on this employment data alone, a fourth consecutive giant step (a 75bp increase in the base rate at once) is almost certain in November. Earlier, former U.S. Treasury Secretary Larry Summers (Harvard professor) advocated for even larger rate hikes, arguing that "to control inflation, the unemployment rate must be above 4.5%." If the U.S. core CPI (Consumer Price Index) for September, to be announced on the 13th, does not show a slowdown below the market expectation of 6.5%, another rate shock is anticipated.

The policy direction of the UK Treasury, which has become a financial market trigger, is also worrisome. Despite the Bank of England (BoE) proposing to expand its purchase scale of government bonds (gilts), which surged following the UK government's tax cut and energy subsidy announcements, market stabilization has not been achieved. The BoE's purchase end date (the 14th) is approaching, but UK pension funds are increasing the volume of gilts they are selling to secure liquidity. If this triggers a further decline in the British pound's value and strengthens the dollar, the Korean won's value will inevitably fall further.

Gong Dong-rak, a researcher at Daishin Securities, explained, "The Bank of Korea needs to raise interest rates to stabilize the exchange rate, and if the rate hike is insufficient or the Bank is left out of the rate hike trend, the burden in the foreign exchange market will inevitably increase," adding, "The side effects of not raising rates are greater than the effects of strengthening the rate hike."

Finally, concerns about domestic inflation have not completely disappeared. Although the domestic CPI slowed to 5.6% in September, the core consumer price index recorded 4.5%, and inflation is expected to remain above 5% until the first half of next year. Im Jae-gyun, a researcher at KB Securities, analyzed, "Since 70% of Korean household loans have variable interest rates, interest cost burdens will increase, but the Bank of Korea's top priority is price stability, so the possibility of a big step in November will remain open."

Meanwhile, according to the domestic bond industry, the credit spread (the difference between the 3-year corporate bond yield rated 'AA-' and the 3-year government bond yield), which can confirm bond issuance sentiment, stood at 108bp as of the 7th. The credit spread broke through 100bp for the first time since the 2008 financial crisis at the end of last month and continues to rise this month.

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