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As crisis builds, central bank refuses to budge

Feb 28,2020
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The Bank of Korea is maintaining the base rate at 1.25 percent despite the coronavirus outbreak, arguing that the damage will be contained and manageable with selective economic support from the government.

The decision seemed at odds with the fast evolving crisis, the disconnect highlighted by the central bank’s abundance-of-caution YouTube press conference - a first for the institution - and by the cut in its forecast for Korea’s 2020 growth to 2.1 percent from 2.3 percent, announced the same day. The bank also said that the economy could contract in the first quarter.

The decision made by the seven-member Monetary Policy Board of the bank was two to five, with Cho Dong-chul and Shin In-seok voting for a 25 basis point cut Thursday. Cho and Shin had voted for a rate cut at the January meeting as well.

The 1.25 percent is a record low for the base rate, which has been in use since 2008. That level was first hit in June 2016. The bank raised rates in late 2017, only to cut the rate again back to 1.25 percent in October 2019.

The rate was cut by 25 basis points in 2015 during the Middle East respiratory syndrome outbreak, with the bank citing weak consumer sentiment.

The central bank governor was hopeful, despite evidence piling up of slowdowns and bottlenecks in the economy. He argued that the difficulties will peak soon.

“The latest base rate decision is under the premise that Covid-19 [also known as the coronavirus] will reach its peak in March and slowly fade out afterwards,” Lee Ju-yeol, Bank of Korea governor, said during the press briefing. “With this as the premise, the economic effect of Covid-19 will be mostly focused on the first quarter. Whether the spread of the virus will intensify or get extended has to be closely assessed.”

Gov. Lee said that the current economic challenges are mainly related to consumer anxiety about the infection and the resulting drop in purchases. He believes that the difficulties being faced can be handled with “selective microeconomic policy” rather than by cutting the policy rate.

The bank announced that it will raise the cap on loans offered to sectors hit by the outbreak from 25 trillion won ($20.6 billion) to 30 trillion won.

The decision to hold rates at 1.25 percent surprised the market.

According to Reuters, 16 of 26 analysts polled anticipated a quarter point reduction.

Korea now has the highest number of confirmed new coronavirus cases outside of China, with the total hitting 1,766 as of Thursday afternoon. That is up 505 from Wednesday, the biggest daily increase.

Analysts argue that the broader context, especially real estate prices, must be considered.

“The unchanged policy rate means that the negative effect of the coronavirus is uncertain as of now, while the risk for real estate prices remains strong,” said Park Min-soo, an analyst at NH Investment & Securities.

According to bank data Thursday, real estate prices rose by 0.4 percent in the Seoul-Incheon-Gyeonggi area in January compared to the previous month. Gov. Lee said stabilizing property prices comes first, followed by cutting the policy rate.

“It seems the rate cut has only been delayed until the next meeting in April. The central bank will trim the key rate once major economic indices are confirmed to have dropped,” Park said.

“It is expected that the bank will go for a cut in April by 25 basis points,” said Kong Dong-rak, a Daishin Securities analyst.

The central bank forecasts 2.1 percent economic growth for 2020 and 2.4 percent growth for 2021.

“Covid-19 will temporarily contract consumption, but with the government’s additional fiscal policy and signs of recovery in equipment investment, if the virus infections drop, individual consumption and exports are expected to show improvement this year,” the bank said in a release.

It predicted equipment investment to increase in IT, including semiconductor and display manufacturing. But the outlook assumes that the outbreak will be under control in March.

“As of now, we don’t see any concrete sign of disruption of production in semiconductors,” Gov. Lee said. “However, it is evident that the service sector has been hit hard by the virus. For the first quarter, we are not ruling out a possibility of a negative growth in Korea.”

Consumer prices are forecast to increase 1 percent in this year and 1.3 percent in the following year, the bank said.

The benchmark Kospi closed at 2,054.89 on Thursday, down 1.05 percent. The secondary Kosdaq dropped by 2.51 percent to close at 638.17.

The value of Korean won to dollar also dropped, closing at 1,217.2 won, up 0.3 won from the previous day.

BY JIN EUN-SOO [jin.eunsoo@joongang.co.kr]