South Korea could keep expansionary policy for years

[September 16, 2014] By Christine Kim and Choonsik Yoo

SEOUL (Reuters) - South Korea will maintain pro-growth policy until a sustained recovery is firmly secured, possibly beyond 2015, as an anticipated pick-up next year might only only be tentative, the finance minister said on Tuesday.

Finance Minister Choi Kyung-hwan noted that the policy interest rate, currently just one cut away from a record low of 2.0 percent, was not low when compared to rates in the major economies in a "new normal" environment.

He also said he was well aware of the risk that South Korea's economy could fall into the kind of slump that Japan suffered for 15 years, adding his ministry keen to devise policy tools to overcome that risk. Government bond futures <0#KTB:> jumped as his pledge indicated that the country's policy interest rate could be cut further or stay low for a longer period than thought before.

"Global interest rates are incredibly low - to the point where this situation has been called a 'new normal'. Our interest rate is nearing a record low but compared to other countries, they are very high," Choi told visiting foreign media.

The Bank of Korea cut its policy interest rate <KROCRT=ECI> by 25 basis points to 2.25 percent in August. It kept the rate unchanged at the Sept. 12 meeting but investors and analysts saw a considerable chance of a further cut as early as next month.
 

The seven-day repurchase agreement rate fell as low as 2.0 percent in early 2009 at the peak of the global financial crisis.

Since he was appointed finance minister in June, Choi has repeatedly warned of the risk that Asia's fourth-largest economy could fall into a long, Japan-style slump and has introduced multi-billion-dollar stimulus measures.

BANK OF KOREA UNDER FRESH PRESSURE

The minister started work in July and the Bank of Korea's rate cut in August was also widely viewed as being influenced by Choi's demands for coordinated stimulus efforts.

The December futures on three-year treasury bonds <KTBZ4> rose as much as 0.20 points to 107.42 after Choi's remarks on Tuesday, before retreating to end the session at 107.29.

"Minister Choi's remarks today were like adding fuel to the market where expectations were already intact for an additional rate cut," said one bond trader at a domestic bank in Seoul.

Whether the central bank will succumb again to government pressure has to be seen as economic indicators increasingly show Asia's fourth-largest economy is on the right track to recovery, despite a slow improvement in exports.

The Bank of Korea Governor Lee Ju-yeol said earlier on Tuesday the effects of the bank's interest rate policy in supporting the economy are limited, due to cyclical and structural changes.

"The Bank of Korea may feel as if they're under undue pressure again while they have been working more or less in line with the government's expansionary policies as of late," said Lee Chul-hee, an economist at Tongyang Securities, who expects the next rate move to be a hike late next year.

"With household debt and U.S. interest rates to consider, the central bank is in no hurry to make any rash decisions, when they feel like current base rates are sufficiently accommodative of economic growth," he said.

Recent data has shown domestic demand picking up, partly thanks to recent stimulus efforts, with money supply growth accelerating and retail sales improving as the economy moves on from the effects of the Sewol ferry sinking, that left more than 300 passengers dead and stifled consumption.

Policymakers have said the accident's influence had nearly been dissipated in July.

Choi said the economy would probably return to a 4-percent growth trajectory in 2015, compared with a 3.7 percent gain seen this year and an actual 3.0 percent rise recorded in 2013.

He did not respond to a question asking what the government would do to mitigate the impact from the yen's falling value against the won, although he said the yen/won rate was important for South Korea.

The won has gained nearly 4 percent against the yen, and neared the strongest level in six years.

Businesses have expressed concerns over the yen's decline versus the won, blaming it for their weakened earnings as South Korean and Japanese firms compete in key export markets for products ranging from cars to electronics goods.

(Additional reporting by Joonhee Yu; Editing by Eric Meijer)

[© 2014 Thomson Reuters. All rights reserved.]

Copyright 2014 Reuters. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.