Bank of Korea Has Rate ‘Adjustment’ Room, Board Member Says

(Bloomberg) -- The Bank of Korea still has room for “adjustment” in its policy interest rate, though it's getting closer to reaching a lower limit for easing, considering the risk of capital outflows, a board member said.

“A lower limit would be a level where monetary policy loses its effectiveness due to a liquidity trap or where massive capital outflows materialize,” Hahm Joon Ho, one of seven BOK board members, said Wednesday in his first media interview since he took his post in 2014. “The concern for Korea so far has been a yield gap with the U.S., but with Europe and Japan adopting negative rates, I personally think there is room for rate adjustment.”

Turning to the impact of last week's surprise Brexit vote, Hahm indicated that a shallower path for expected U.S. Federal Reserve interest-rate increases is helping to offset the turmoil emanating from Europe. Emerging markets, including South Korean stocks, have rallied this week after a slide on June 24, when results from the U.K. referendum to leave the European Union came out.

Brexit Risks

“Brexit increases uncertainties for global growth, with a potential recession in U.K. and slower growth in EU -- this uncertain situation would only worsen should other countries show similar exit moves,” said Hahm, who was a consultant at the World Bank in the wake of the 1998 Asian financial crisis. “Still, with the Fed's rate-increase path expected to be more gradual and cautious, Brexit's impact on non-European economies, like the U.S. and China, will be limited.”

The possibility of Britain's exit had been considered when the board lowered rates in an unexpected move earlier this month, according to Hahm. The need for further rate adjustment -- in either direction -- would depend on how Brexit affects inflation, Korea's growth path and the volatility in capital flows, he said.

Hahm said it's difficult to specify what that lower bound in the 1.25 percent policy rate would be, as capital flows are also dependent on the currency outlook. Because gradual growth continues in South Korea, and there's a low risk of deflation, it's too early to discuss whether the central bank needs to prepare for measures like quantitative easing, which would only come after rates are lowered close to zero, Hahm said.

Preemptive Move

Governor Lee Ju Yeol said this month's policy change, which was a unanimous decision by the board, was a “preemptive move” against risks from the fallout of a domestic restructuring of indebted companies and slower global trade.

Hahm, 52, is a graduate of Seoul National University and has a Ph.D. from Columbia University's business school in New York. He was a professor at Yonsei University in Seoul before joining the BOK board in May 2014. 

With four members exiting in April as their terms ended, Hahm is the longest-serving member on the current board after Governor Lee, with a term that ends in May 2018. Hahm hasn't dissented from the majority vote in rate decisions since taking office.

The central bank is set to revise its 2016 economic growth outlook in July, having projected 2.8 percent expansion in April. The minutes of June's policy meeting showed several members voicing concerns about the BOK's previous projections.

Evolving Impact

Rate cuts have less impact on boosting Korea's growth and inflation than in the past as a result of structural factors like an aging population, increased savings for an uncertain future and slowdown in global trade volumes, Hahm said. Yet lower rates will have favorable effects on the economy such as preventing a decline in asset prices, easing household and companies' debt burden in the near term and warding off deflationary sentiment, Hahm said.

Recent data show South Korea's economy is still struggling to accelerate even with lower rates. The gross domestic product increased 0.5 percent in the first quarter from the previous three months, while exports fell for a 17th month in May. Consumer prices in May rose 0.8 percent from a year earlier, far below the BOK's inflation target of 2 percent.

As part of stronger accountability measures, Lee is due to give a press briefing in July on why price gains have trailed the target and what policy measures will be adopted. The BOK's next rate decision will be July 14.

“The relationship between inflation and employment and economic growth has weakened significantly globally, and there are limits in managing monetary policy just to match the inflation target,” Hahm said. “What the BOK adopted is a more flexible inflation targeting system. We take a forward-looking stance and will focus on whether inflation can reach the target within a mid-term horizon.”

If so, then the key rate can be kept at the current level, he said.

To contact the reporter on this story: Jiyeun Lee in Seoul at jlee1029@bloomberg.net. To contact the editors responsible for this story: Brett Miller at bmiller30@bloomberg.net, Jodi Schneider, Christopher Anstey