South Korea's central bank on Friday left the key interest rate unchanged for the seventh straight month as it saw heightening risks from Europe's debt crisis and slowing growth in the domestic economy amid high inflation.
Bank of Korea (BOK) Gov. Kim Choong-soo and his fellow policymakers held the benchmark 7-day repo rate at 3.25 percent for January, as widely expected. The standpat decision was unanimous.
The BOK chief said downside risks to growth in the global economy are getting bigger and the recovery will remain "very moderate" due to Europe's debt crisis, possible slumps in major economies and financial market jitters.
"It is hard to say that situations in Europe are improving," Kim said at a press conference. "Domestic economic growth will remain subdued for some time due largely to the impact of external risk factors."
South Korea is forecast to report lower-than-expected fourth quarter growth, Kim said, citing weak local demand and construction investments. "In this sense, the domestic economy can be seen as contracting."
The BOK estimated earlier that the fourth-quarter growth domestic product (GDP) would rise 4 percent year-on-year. It is scheduled to release the fourth-quarter GDP figure later this month.
Despite negative signs in the global and domestic economy, the central bank still sees there are high inflation expectations and therefore the pace of decline in the inflation rate will be moderate, Kim added.
The central bank was "in a deadlock situation" over the rate-setting decision, said KB Investment & Securities Co. economist Jason Lee, as high inflation and the slowing economy created conflicting risks, making it difficult for the central bank to either cut or hike the key rate.
Even though Europe's sovereign debt crisis clouds the growth prospects for the export-driven countries like South Korea, central banks in Asia have refrained from lowering borrowing costs out of concern that such a move may stoke inflationary pressure.
On Thursday, Bank Indonesia kept interest rates unchanged for a second month in January on inflation fears.
In December, South Korea's consumer prices grew over 4 percent year-on-year for a second straight month, government data showed, due to rises in agricultural prices and high energy costs.
Core inflation, excluding volatile oil and food costs, climbed 3.6 percent from a year ago in the same month, the highest monthly hike in 2011.
Tension between the United States and Iran could exert inflationary pressure if South Korea joins sanctions to reduce oil imports from Iran, which account for about 10 percent of its total crude imports.
The Iran dilemma and other external factors could cause consumer prices to move with increased volatility, the BOK chief said.
With adverse conditions in the global economy, the South Korean economy is forecast to expand at a slower pace of 3.7 percent this year, compared with 3.8 percent growth in 2011.
The BOK puts its estimate of annual consumer price growth at 3.3 percent this year.
With external uncertainties still clouding the outlook, analysts are divided over the central bank's next move.
"I still maintain the forecast that there will be two rate cuts in the second quarter," said Yoon Yeo-sam, a fixed-income analyst at Daewoo Securities Co. "BOK's statement about inflation wasn't as strong as expected while it has raised emphasis on downside risks to the economy."
Others forecast that the central bank will likely refrain from monetary easing for the rest of the year.
"It is expected to hold the key rate for the whole year," said Kim Nam-hyun, an analyst at Eugene Investment & Securities Co. "Increased downside risks in the global economy heightens risks of a slowdown in the domestic economy, and there was no strong statement (from the BOK) on consumer prices."
The BOK cut 3.25 percentage points from the total rate to a record low of 2 percent between October 2008 and February 2009. Since July 2010, the BOK has raised borrowing costs by 1.25 percentage points in five steps in a bid to curb inflation.