South Korea's central bank held interest rates steady and modestly scaled back its expectations for growth and inflation, a sign that rates will stay steady, but disappointed investors who had hoped its next move would be to cut borrowing costs. As expected, the Bank of Korea left its policy interest rate unchanged at 2.50 percent for the 14th straight month and trimmed its economic forecasts to reflect recent softness, but its governor maintained the view that Asia's fourth-largest economy was still on a recovery track.
Bond futures prices rose slightly, while local stocks and South Korea's won currency showed a muted reaction as remarks by Governor Lee Ju-yeol and revised economic forecasts from the Bank of Korea both fell short of flagging an imminent cut in interest rates. Most economists polled by Reuters on Tuesday expect the central bank's next rate move will be a hike.
South Korea's economy is now forecast by the central bank to grow by 3.8 percent this year and 4.0 percent next year, down from previous growth projections of 4.0 percent and 4.2 percent, respectively. Both figures are substantially higher than last year's actual 3.0 percent growth. Domestic demand in South Korea has been hit hard by the April ferry sinking in which more than 300 passengers died. Softer growth in some parts of the world has also been a drag on confidence in export-reliant South Korea.
"The downgrades were made due to effects from the Sewol ferry accident, which hurt domestic demand," Lee told reporters after the central bank's seven-member board failed to reach a unanimous rate decision for the first time since May last year. "Inflation will gradually pick up but price pressures are expected to be weaker than initially expected," he said.
Six of the monetary policy committee's seven members voted to keep the policy rate unchanged, with the seventh voting against the move, Lee said, declining to disclose whether the dissenting vote was for a cut or raise. Raymond Yeung, economist at Australia and New Zealand Banking Group in Hong Kong, said Lee's remarks pointed towards a delay in lifting rates.
"As (Lee said) 'inflation will gradually rise', we do not think an imminent rate cut was considered in the boardroom." The strengthening won, up 12 percent against the dollar over the past year, has helped keep South Korea's inflation below the lower end of the central bank's target band between 2.5 percent and 3.5 percent. Central bank data showed early on Thursday the import price index measured in won terms fell 8.8 percent in June compared to a year ago, led by the won's rise.
Lee, however, did not specifically refer to the strong won as a factor behind tame inflation. Thursday's policy decision came amid speculation among bond traders that remarks by the finance minister-nominee asserting an urgent need to boost domestic consumption was a veiled prod for the Bank of Korea to cut interest rates.
All but two of the 26 analysts surveyed by Reuters late on Tuesday forecast the Bank of Korea would leave its base rate unchanged at 2.50 percent at Thursday's meeting. Most analysts saw a raise as the next rate move. Private-sector economists have been downgrading their growth views for South Korea, although by small margins, after indicators showed domestic demand was softening and exports were recovering much more slowly than expected.
But a statement released by the Bank of Korea showed it was expecting quarterly economic growth to pick up to 1.1 percent in the July-September period after slowing to 0.7 percent in the second quarter, and from 0.9 percent in the first quarter. The pace of export growth has been disappointing and the outlook remains uncertain with China, South Korea's biggest export market, slowing and European countries on an uneven recovery path from a multi-year slump.
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