Korea Keeps Interest Rate at Record Low a Sixth Month

By Seyoon Kim

Aug. 11 (Bloomberg) -- South Korea’s central bank kept its benchmark interest rate unchanged at a record low for a sixth straight month amid “favorable” signs of economic recovery.

Governor Lee Seong Tae and his board left the seven-day repurchase rate at 2 percent in Seoul today, as expected by 12 of 13 economists surveyed by Bloomberg. The Bank of Korea cut the benchmark by 3.25 percentage points between October and February, the most aggressive easing since it began setting a policy rate a decade ago.

“Recent signs of an improvement in the economy are still not enough to justify a rate increase, as the economy only started to pick up,” said Kim Seung Hyun, head of research at Taurus Investment Securities Co. in Seoul. “The central bank will have to start thinking about inflationary pressure from later this year when demand rises further.”

South Korean stocks have soared 40 percent this year on investor confidence in the economy, which last quarter expanded at the fastest pace since 2003, joining China and Singapore in leading a regional rebound. The International Monetary Fund upgraded its forecasts this week for South Korea’s economic growth in 2009, citing low interest rates and fiscal spending.

“We will maintain an accommodative policy stance so the economy can improve in coming months and financial markets maintain a stable trend like they did in the past few months,” Lee told reporters in Seoul today.

Stocks Rise

The benchmark Kospi stock index rose 0.1 percent to 1,577.43 at 12:01 p.m. in Seoul and the won fell for a third day, with the currency 1.2 percent lower at 1,243 against the dollar. The yield on five-year government bonds fell 7 basis points to 4.92 percent.

“Economic activity in terms of both production and demand has recently continued to exhibit favorable movements,” the central bank said in a statement in Seoul.

South Korean industrial output rose the most in four months in June, a sixth straight advance, and manufacturers’ confidence climbed to a 14-month high. Japanese machinery orders, an indicator of capital investment in the next three to six months, jumped 9.7 percent from May, the Cabinet Office said yesterday.

The Bank of Korea on July 10 raised its gross domestic product forecast for this year and next, saying the economy will shrink a less-than-expected 1.6 percent in 2009, before expanding 3.6 percent next year. Before that, the government on June 25 raised its 2009 GDP forecast, predicting the economy would shrink 1.5 percent this year, less than the previous estimate of a 2 percent drop.

‘Recovery Trend’

“The economy is likely to expand in the second half on a quarter-on-quarter basis as demand seems to have picked up from the second half, even though the impact of government policies will weaken,” Lee told reporters in Seoul today. “The recovery trend is likely to continue from the second quarter, even though there are some uncertainties remaining.”

Policy makers in the U.S., Europe and the U.K. are also keeping borrowing costs unchanged to spur their economies. The European Central Bank left its benchmark rate at a record low of 1 percent on Aug. 6, and the U.S. Federal Reserve will keep its overnight lending rate at between zero and 0.25 percent on Aug. 13, according to all 38 economists surveyed by Bloomberg News.

The Bank of Japan today kept its overnight lending rate at 0.1 percent and refrained from unveiling any new measures.

Some economists say the South Korean central bank may need to raise rates as early as November to prevent inflation from accelerating following the economic recovery.

Credit Risks

“Evidence for an economic recovery will build up, raising the necessity for an interest-rate increase,” said Nomura Holdings Inc. economist Kwon Young Sun in Hong Kong. “I think there are more upside risks to the economy than the Bank of Korea is predicting.”

Cheaper borrowing costs prompted households to increase borrowing, with the nation’s bank lending to households expanding for a sixth straight month in July.

“Mortgage loans continued to expand markedly,” the central bank said in a statement today. “Concerns about credit risk” and the short-term focus of market funds “have not been resolved,” it added. Lee said the central bank will look into the details of the increase in mortgage loans.

The government has said it will maintain its expansionary fiscal policies this year to help support the economy.

South Korea spent 167.1 trillion won ($137 billion), or 64.8 percent of this year’s budget, in the first half of 2009 to help support Asia’s fourth-largest economy. The jobless rate rose to the highest in more than eight years in June after manufacturers and construction companies cut jobs.

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