Bank of Korea turns Hawkish

Looks like 2021 is giving 2020 a run for its money in terms of unpredictability. I mean honestly, in my brief stint as a politico-economic analyst, I have rarely expected curveballs in such a recurring succession. First, we witnessed the shortest recession in history and now, while the haze of the pandemic has still not settled, we are conversely experiencing a global economic boom despite supply bottlenecks, a flailing labor market, and murky inflationary cues. Only last year, the talk of the town was a lenient economic policy, relaxed monetary tools, and a bumper of fiscal stimulus to kickstart the sluggish economy. But now, the hassle is to tighten the screws as early as possible before the recovery morphs into a meltdown – one country actually went through to call the quits on expansionary measures.

South Korea, Asia’s fourth-largest economy, hiked the policy rate after 15 months on Thursday, 26th August 2021. While a rate hike is predictable in the emerging markets, South Korea became the first developed economy to raise the interest rates after the pandemic struck last year. The Bank of Korea (BOK) raised the interest rates by 25 basis points to settle the benchmark interest rate at 0.75%. Mr. Lee Ju-yeol, Governor of the BOK, asserted that the quarter percentage hike is intended to curb the financial imbalance that currently looms over the South Korean economy.

At the first glance, his justification seemed ludicrous. My inference was that South Korea, despite economically sound, was recently hit with the outbreak of a highly contagious delta variant. Hospitalizations have mounted in the last month and lockdown measures seem quite a possibility similar to China and Japan. In such an instance, a squeezing monetary policy could extremely damage the growth achieved in the past few months. Despite an adjusted forecast of 2.1% year-on-year inflation, the growth trajectory remains robust at 4%: clearly contradicting the hawkish shift in policy. However, a detailed analysis truly provided semblance: like a snapshot of the worrisome facets troubling the Bank of Korea.

For starters, while Mr. Lee assured that the rate hike still leaves the rates accommodative enough to resist another recession, the burgeoning debt crisis was the frontrunner of his worries. Kim Sanghoon, a fixed-income strategist at KB Securities Co, contributed: “The Bank of Korea (BOK) couldn’t wait any longer when it has consistently stressed its focus on household debt and financial imbalances”. Now that we think of it, it does ring a bell. The BOK policymakers have been insinuating a tightening policy since May, only to be deferred by the spread of the delta variant and subsequent health measures. As I observe the financial figures in question, I couldn’t help but revert away from my previous premise to adopt acceptance of this new policy shift by the BOK. According to research, South Korea’s house prices have soared by an estimated 14.3% year-on-year in July. To top it off, the loans have been running in tandem. The average household debt has surged an estimated 10% year-on-year in the second quarter. It is apparent enough that South Korea is most plausibly experiencing a debt-induced asset price bubble. Therefore, the decision (while slightly deviant given the health crisis in South Korea) seems appropriate enough as a function of long-term financial stability.

I presume that the main aspect of a shocker was simply a status quo I follow. Simply put, I never expected a developed economy like South Korea to precede the US Federal Reserve in taking a hawkish shift. Especially when a smattering of other economies like New Zealand and the UK followed suit to the Fed’s monetary handles. Apparently, I was not the only one. 14 out of 30 Reuters respondents expected the BOK to maintain the policy rate and even BOK governor Mr. Lee professed that the rate hike was ‘not a unanimous decision’ between the policymakers. But Mr. Lee also went on to discuss the resilience of the South Korean economy in the face of the delta variant. He also hinted at another rate hike in the forthcoming months (quite plausibly around November-January), eyeing the 1.25% normalization mark by the fourth quarter of 2022. I realized that there is a possibility that evading a debt crisis might just be worth risking stunted growth and pushing the brakes before the Federal Reserve.

Syed Zain Abbas Rizvi
Syed Zain Abbas Rizvi
The author is a political and economic analyst. He focuses on geopolitical policymaking and international affairs. Syed has written extensively on fintech economy, foreign policy, and economic decision making of the Indo-Pacific and Asian region.