[The Editors' Verdict] BOK: October Benchmark Rate Cut Is Desirable

The market was turbulent due to debates over a potential recession in the United States and the Bank of Japan's (BOJ) surprise interest rate hike.

On the 31st (local time), the U.S. Federal Reserve (Fed) held its regular Federal Open Market Committee (FOMC) meeting and kept the benchmark interest rate unchanged, signaling a possible rate cut in September. However, the July manufacturing Purchasing Managers' Index released on the 1st and the July employment data released on the 2nd showed worse-than-expected results, sparking recession concerns. According to the Chicago Mercantile Exchange (CME) FedWatch tool, after the July employment report, the federal funds futures market raised the probability of a 50bp (1bp = 0.01 percentage point) rate cut by the Fed in September to 71.5%. The probability of a total 125bp rate cut by December also surged to 45.9%. There were even calls for the Fed to hold an emergency meeting in August to cut rates before the September FOMC.

The U.S. stock market fell sharply for three consecutive trading days starting from the 1st. However, as many argued that recession fears were exaggerated, the market stabilized. Morgan Stanley stated in an investment note, "The U.S. economy is not in a recession," and added, "It is unlikely that there will be an emergency rate cut before the September FOMC or a 'big cut' of 50bp at the September meeting." David Solomon, CEO of Goldman Sachs, also said, "There will be no recession," and "Based on current indicators and Fed messaging, there will be no rate cut before September, but one or two cuts are likely in the fall."

In both the U.S. and South Korea, many are hoping that central banks will cut benchmark interest rates sooner and by a larger margin. Inflation is moving toward the 2% target, and high interest rates are painful for most economic agents and a factor slowing economic growth.

In the U.S., the argument that the Fed should have cut rates on July 31?the so-called "missed rate cut theory"?has gained traction. In South Korea, voices have emerged arguing that the Bank of Korea (BOK) should cut rates at the August 22 Financial Monetary Policy Committee regular meeting before the U.S. cuts rates in September, citing sluggish domestic demand due to high interest rates and inflation, as well as U.S. recession concerns. Some media outlets have even openly advocated for early rate cuts through articles and columns.

As is well known, the benchmark interest rate is a complex equation that must consider various factors. There are arguments to address housing price issues by tightening mortgage regulations and to stimulate domestic demand by cutting rates quickly, possibly as early as August. However, it is difficult for the BOK to cut rates before the U.S. due to concerns over further won-dollar exchange rate increases. A widening interest rate gap between Korea and the U.S. could send the wrong signal to the market that the BOK is tolerating exchange rate rises, which would be a source of market instability.

In Japanese politics, two prominent Liberal Democratic Party politicians shook the independence of the central bank by criticizing the excessive yen weakness, i.e., the super-weak yen. Contrary to market expectations that the BOJ would keep rates steady on the 31st, it raised the benchmark rate by 0.25%. This contributed to a sharp unwinding of yen carry trades, which helped trigger the "Black Monday" in global stock markets on the 5th. Ultimately, BOJ Deputy Governor Shinichi Uchida had to announce on the 7th that "there will be no further rate hikes amid unstable financial and capital markets."

Financial and capital markets must be handled carefully. There are moments when market expectations and forecasts must be broken, but in most cases, these expectations should be accepted and well managed. The BOK has done well so far. It is desirable to cut the benchmark interest rate in October as the market expects. Even if the U.S. cuts rates by 50bp in September, considering the Korea-U.S. interest rate gap, South Korea is likely to cut rates by only 25bp in October.

On the 6th, Prime Minister Han Duck-soo said, "I hope the government's real estate supply measures will create favorable conditions for a rate cut." No one should undermine the independence of the BOK.