South Korea May Use Price Controls to Cool Inflation

By Seyoon Kim

July 15 (Bloomberg) -- South Korea's government indicated it may implement price controls to cool decade-high inflation, a day after the central bank warned wage demands could ignite a ``vicious cycle'' of spiraling prices.

Government ministries should ``restore'' departments that are in charge of controlling prices and devise ways to stabilize costs of products under their responsibility, Vice Finance Minister Kim Dong Soo said at the start of the first of a new weekly meeting of ministries to discuss fighting inflation.

``In order to minimize the effect on ordinary people's lives, we need to take micro-economic measures'' as well as macro measures such as monetary and liquidity controls to damp inflation, Kim said. If rising prices boost ``inflationary expectations, that can push up wages and add a significant burden on the economy,'' he said.

President Lee Myung Bak's administration said in March it would monitor the prices of 52 products including rice, pork, milk and shampoo. In the past month the government has turned its focus from sustaining growth to fighting inflation that has sent confidence among consumers to a seven-year low.

``There will be a limit to what the government can do in terms of prices,'' said Kwon Young Sun, an economist at Lehman Brothers Holdings Inc. in Hong Kong, citing the risk that price controls could distort the market mechanism. ``Still, it's signaling constantly it's focused on stabilizing inflation.''

Bank of Korea Deputy Governor Kim Byung Hwa yesterday said wage demands could ignite a ``vicious cycle'' of spiraling prices.

Inflationary Expectations

``Policy makers want to prevent any inflationary expectations from spreading, even though I don't see a sign of those yet,'' said Lee Sang Jae, an economist at Hyundai Securities Co. in Seoul. ``If those expectations materialize, it could cause a spiral where people demand more wages because of rising prices and that pushes up consumer prices further.''

Record fuel costs and a weaker won drove consumer prices up 5.5 percent in June from a year earlier. In response, policy makers stepped up efforts to stem a drop in the South Korean won that has fanned price pressures by increasing the cost of imported goods including oil.

The won declined 0.2 percent to 1,006.30 per dollar as of 1:11 p.m. in Seoul. The currency last week advanced 4.8 percent as the finance ministry and central bank said they would use the nation's $258 billion of foreign reserves to support the won. For the year it is down 7 percent against the dollar.

Import Prices

South Korea's import prices rose 49 percent in June from a year earlier, the most in more than 10 years, the central bank said today. That's hurting the terms of trade, a measure of export prices relative to import prices, and squeezing corporate profit and household income.

The Bank of Korea kept interest rates unchanged at the highest level in seven years at 5 percent last week, adding it expects inflation to accelerate and economic growth to slow.

To contact the reporter on this story: Seyoon Kim in Seoul at skim7@bloomberg.net