The Bank of Korea (BOK) left its benchmark interest rate unchanged at 3.25 percent on Friday, keeping its rate freeze stance for a fifth straight month, following an unexpected rate hike in June, due to renewed concerns over Europe's debt crisis and eased headline inflation.
Governor Kim Choong-soo and monetary policy board members unanimously decided to freeze the 7-day repo rate at 3.25 percent this month after raising the rate by 25 basis points (bp) in January, March and June each. The BOK has lifted the borrowing costs by a total of 125 bps in five steps since July last year.
The decision was in line with market expectations as most experts forecast the central bank's commitment to rate normalization would weaken amid the renewed deterioration of the euro-area's sovereign debt crisis and abating consumer price inflation mainly driven by lower agricultural product prices.
"Financial market sentiment remains fragile this month due to the renewed concerns about a deepening of the European debt crisis. Inflation has fallen from the peak, though is still near the top of the central bank's target band of 2-4 percent," DBS said in a report before the rate decision.
Concerns spread that Italy may seek international bailout after borrowing costs of the world's No. 8 economy soared to a dangerous level. The yield on the Italy's 10-year government bond surged Wednesday to a euro-era record of 7.21 percent, breaching the dangerous threshold of 7 percent at which Greece, Ireland and Portugal sought bailout funds.
Market watchers worried that the global financial market may slip into a vicious cycle as seen in Greece's case. After the Greek bond yield rose above 7 percent in July last year, the yield skyrocketed to over 12 percent in one month, and the peripheral nation faced additional troubles such as credit rating downgrades, political split and civil protests against austerity plans.
Growing uncertainties surrounding the European fiscal crisis drove the BOK to freeze its key rate for five months in a row, experts said. "The renewed deterioration of the euro-area sovereign debt crisis suggests that the likelihood of a rate hike is effectively zero," said Oh Suk-tae, an economist at SC First Bank Korea in Seoul.
Global monetary loosening stance has recently strengthened. The European Central Bank (ECB) cut its policy rate by 25 bps to 1.25 percent this month at the first monetary policy meeting presided over by the newly appointed ECB head Mario Draghi. Australia lowered its base rate by 25 bps to 4.5 percent this month, while Indonesia unexpectedly cut its policy rate by 25 bps to 6.5 percent last month.
The U.S. Federal Reserve mentioned the possibility of additional stimulus measures, including an extension of the zero interest rate and mortgage-backed securities (MBS) purchasing, while the Bank of England launched its second round of quantitative easing in October with 75 billion pounds more gilt purchases. The Bank of Japan (BOJ) was increasing yen supply to stem the currency's appreciation against the U.S. dollar.
Amid growing accommodative monetary policy globally, some even expected the BOK to cut its policy rate in the foreseeable future. "The BOK is likely to cut the base rate in the first half of next year and will probably lower the rate one more before next year's end. No one seems to take the central bank's normalization pledge seriously as global financial markets remain unstable and the growth outlook continues to dim," said Yoon Yeo-sam, a fixed- income analyst at Daewoo Securities in Seoul.
Yoo noted that monetary authorities in the U.S., Europe and Japan focused on stabilizing the real economy rather than taming inflation, predicting that Australia, Indonesia and Israel were likely to continue with their rate-cutting cycles.
Headline inflation, which has fallen from the peak, returned to the BOK's inflation target range of 2-4 percent in October for the first time this year, reducing the central bank's burden for a fight against inflation.
The nation's consumer prices rose 3.9 percent in October from a year earlier, down from a 4.3 percent on-year gain in September. This was the first time this year that the headline inflation fell below the upper ceiling of the BOK's inflation target band of 2-4 percent. Core inflation, which excludes volatile agricultural and petroleum prices, advanced 3.7 percent last month, down from 3.9 percent tallied in the previous month.
The BOK said in a report assessing current economic conditions that the country's consumer price growth was seen to slow down due to declines in agricultural product prices, but core inflation was forecast to sustain its upward trend, driven by high inflation expectations.
"Headline inflation could rebound to above 4 percent in November owing to base effects, but we believe that inflation peaked at 5.3 percent in August, and will decline to below 4 percent thanks to the further decline in food prices and the stabilization of energy prices," said Oh at SC First Bank Korea.