The Bank of Korea (BOK) announced on Thursday its decision to keep the benchmark interest rate unchanged at 2.50%. However, this cautious move was overshadowed by a pronounced hawkish split within its seven-member monetary policy board, signaling an imminent pivot towards a more restrictive policy stance aimed at taming inflation and bolstering the struggling South Korean won.
Five out of the seven board members voted to maintain the rate, while two dissenters called for an immediate hike. This decision largely aligned with market expectations, as 30 of the 32 economists surveyed by Reuters had predicted a hold. Only two outliers had forecasted a rate increase.
The meeting also marked the policy debut of the new central bank governor, Shin Hyun Song. Under his leadership, the BOK has significantly revised its inflation estimate for the current year upwards to 2.7% from an earlier 2.2%, primarily attributing the change to spillovers from rising oil prices. Concurrently, the growth forecast for this year was raised to 2.6% from 2.0%, reflecting a robust first-quarter expansion of 1.7%—the fastest in nearly six years.
Further emphasizing the hawkish sentiment, the bank's updated dot plot—which charts policy rate projections over the next six months—revealed a strong bias towards higher rates, with most members anticipating rates reaching 3%. Notably, two dots even projected a more aggressive increase to 3.25%.
Following the release of the dot plot and policy statement, South Korea's policy-sensitive three-year treasury bond futures (KTBc1) reversed their early gains, turning sharply downwards.
Analysts widely anticipate Governor Shin to adopt a more hawkish approach than his predecessor, Rhee Chang-yong, prioritizing price stability and currency defenses over economic growth support. Stephen Lee, an economist at Meritz Securities in Seoul, commented, "We expect the BOK will hike its policy rate to 2.75% at the next meeting in July, followed by another rate hike in October, pushing the rate towards 3.00% by the end of the year." Lee highlighted the positive output gap, rising inflation expectations, and increasing housing prices as key drivers for these anticipated hikes.
Headline inflation currently stands at 2.6% in April, surpassing the central bank's 2% target and marking the fastest gain in almost two years. The weakening won (KRW=), which has depreciated 4.5% against the dollar this year, is also contributing to imported inflation, a critical concern for a nation heavily reliant on Middle Eastern energy imports. Despite these challenges, an insatiable global appetite for semiconductors is fueling South Korea's phenomenal export cycle, with the benchmark Kospi almost doubling this year, generating positive spillover effects for local suppliers and factories.
Markets had already been factoring in the likelihood of a hike, with approximately two-thirds of economists polled predicting at least one rate increase by the end of September. This represents a significant shift from last month's survey, where only three of 30 economists expected a quarter-point hike.
