Observers noted on Thursday that the U.S. Federal Reserve's recent rate hike to combat inflation, its first in over three years, is likely to intensify pressure on the Bank of Korea to raise its benchmark interest rate further. Overnight, the Fed increased its benchmark rate by 25 basis points to a range of 3.75%-4.00%, marking its first hike since July 2023. Amid persistently high inflation and elevated oil prices, the Fed signaled that additional rate increases could be on the horizon this year.
Following this move, the interest rate gap between South Korea and the U.S. has widened to as much as 1 percentage point. Prior to the Fed's action, the Bank of Korea had already raised its benchmark rate to 3% in two consecutive meetings in July and August, the first back-to-back hikes since January 2023. This came after a streak of seven consecutive rate increases that began in April 2022.
Analysts suggest that rising inflation, combined with currency pressure and high household debt, will compel the Bank of Korea to push the benchmark rate higher within the year. Meanwhile, Bank of Korea Vice Governor Kwon Min-soo chaired a meeting earlier Thursday to evaluate the potential impact of U.S. interest rate policy on domestic financial and foreign exchange markets.
During the session, Kwon noted that given the possibility of another rate increase signaled by Fed Chair Kevin Warsh, the U.S. central bank is expected to maintain its monetary tightening stance. He also pointed out that various risks remain, including geopolitical tensions in the Middle East, concerns over fiscal soundness in major economies, and uncertainty within the artificial intelligence sector.
Kwon added that major economies such as Japan and the U.K. are set to finalize their benchmark rates this week, and the Bank of Korea will remain vigilant, closely monitoring domestic financial and foreign exchange markets. Simultaneously, the central bank is likely to opt for a rate hike in November rather than next month, as it assesses the cumulative effects of consecutive increases.
Kim Myung-sil, an analyst at iM Securities, stated, "Minutes from the August monetary policy meeting indicate that the central bank's policy focus is centered on the timing and pace of hikes, not whether to hike." In its latest monetary policy report, the Bank of Korea stated that accelerating inflation and robust economic growth are expected to persist for some time, and the central bank will determine the timing and pace of subsequent hikes based on an assessment of domestic and international conditions.
The report noted, "Given that strong economic growth and inflation above target are expected to continue for an extended period, it is necessary to finalize the timing and pace of future rate hikes while monitoring changes in domestic and external conditions." The solid growth of South Korea's economy also provides support for another rate increase. Driven by AI-related exports and investment, the country's second-quarter nominal gross domestic product (GDP) posted its fastest growth in 47 years.
Experts indicate that the widening rate gap, coupled with still-high housing prices in Seoul and its surrounding areas, will further push the Bank of Korea to maintain its hawkish stance.
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