This Year, the US Plans to Cut Interest Rates Three Times... When and How Much for Korea?

[Image source=Yonhap News]

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As the U.S. Federal Reserve (Fed) solidifies its plan to cut interest rates three times a year, showing a somewhat dovish stance, attention is also focused on the timing and number of rate cuts by the Bank of Korea (BOK). There were market concerns that the rate cut forecast in this year's dot plot would decrease from three times, as projected in December last year, to twice. However, with the Fed maintaining its benchmark rate steady for the fifth consecutive time and keeping the plan for three rate cuts, it is expected to influence the BOK's pivot (direction change) plans as well.

According to the results of the U.S. Federal Open Market Committee (FOMC) meeting held on the 20th (local time), as the market expected, the Fed kept the policy rate unchanged (5.25?5.50%), resulting in no change to the interest rate gap between Korea and the U.S. (2 percentage points). The market is increasingly optimistic that the Fed will begin cutting rates starting in June.

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The FOMC policy statement removed the phrase indicating that job growth had slowed since early last year. The Fed still assesses the labor market as robust. Nevertheless, Fed Chair Jerome Powell explained at the post-meeting press conference, "Labor demand remains high, but supply has also increased significantly, and wage growth, while still elevated, is declining to a sustainable level," adding, "A strong labor market itself is not a reason to worry about inflation."

Chair Powell also expressed confidence in disinflation. At the press conference, he stated, "There will be some bumps along the way, but the belief that inflation will ease toward the 2% target remains unchanged," and emphasized, "It is appropriate to begin rate cuts at some point this year."

The BOK's New York office also interpreted the policy statement and Chair Powell's press conference dovishly in a local intelligence report released that morning, stating, "Despite upward revisions to growth, inflation, and interest rates beyond next year in the economic outlook, the interest rate forecast for this year was maintained, and recent strong inflation indicators did not raise significant concerns." Consequently, on the morning of the 21st, the won-dollar exchange rate opened lower at 1,329.5 won, down 10.3 won from the previous day.

[Image source=Yonhap News]

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If U.S. rate cuts become certain, the prevailing view is that the BOK will confirm whether domestic inflation converges to the 2% target and then cut rates in the second half of the year. With both Korea and the U.S. gaining confidence in disinflation, market attention is focused on when and by how much the Fed and the BOK will cut rates in the latter half of this year.

A BOK official stationed in Washington explained in a local intelligence report, "Chair Powell mentioned at the press conference that progress in disinflation continues and that discussions on balance sheet reduction have begun in earnest," adding, "Considering this, the Fed is expected to monitor reserve movements and incoming data, weigh risk balances, and deliberate on adjusting the pace of quantitative tightening (QT) and the timing of rate cuts."

Professor Park Jung-soo of Sogang University's Department of Economics said, "Since U.S. rate cuts within this year have become certain, the issue now is timing," and explained, "While the BOK's rate decisions are influenced by U.S. monetary policy, they are not immediate and tend to cut less and raise less, so it seems unlikely that the BOK will cut rates three times this year just like the U.S."

There is also analysis that if the 'last mile' (the period until the inflation target is reached) ends and bumpy inflation is quickly controlled, the pace of cuts could accelerate. Professor Seok Byung-hoon of Ewha Womans University's Department of Economics explained, "If inflation converges to the 2% target from the end of this year to early next year as expected by the BOK, the neutral interest rate would be around 2?3%, so the benchmark rate could conservatively fall to about 2.75%."

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