Growth Forecast Downgraded Due to Weak Domestic Demand... Interest Rate Held Steady for 13 Consecutive Times (Comprehensive)

Concerns Over Housing Prices and Household Debt... Bank of Korea Holds Interest Rate Steady for 13th Consecutive Time
Domestic Demand Slump Lowers This Year's Economic Growth Forecast from 2.5% to 2.4%
Consumer Price Inflation Forecast Also Downgraded from 2.6% to 2.5%

Lee Chang-yong, Governor of the Bank of Korea, is striking the gavel at the Monetary Policy Committee plenary meeting held on the 22nd at the Bank of Korea headquarters in Jung-gu, Seoul. Photo by Joint Press Corps

The Bank of Korea has slightly lowered its economic growth forecast for South Korea this year from 2.5% to 2.4%. Although exports, centered on semiconductors, continue to perform well, the growth forecast was reduced due to persistent domestic demand sluggishness. With inflation stabilizing, the consumer price inflation forecast was also lowered from 2.6% to 2.5%.

The base interest rate was held steady at 3.50% per annum for the 13th consecutive time. Concerns over rising housing prices in the Seoul metropolitan area and increasing household debt are seen as factors preventing a rate cut.

Economic Growth Forecast Lowered to 2.4% Due to Domestic Demand Slump

In the revised economic outlook announced on the 22nd, the Bank of Korea lowered its forecast for South Korea's GDP growth rate this year from 2.5% to 2.4%, a 0.1 percentage point downgrade from the May outlook.

This reflects the fact that the country's economic growth rate recorded -0.2% quarter-on-quarter in Q2, and domestic demand indicators such as private consumption have not significantly improved entering Q3.

The Bank of Korea expects exports, led by semiconductors, to continue to perform well in the second half of the year as in the first half, but anticipates that sluggish domestic consumption and investment will persist for some time.

The Bank of Korea's 2.4% forecast is lower than the government and OECD forecasts (2.6%) as well as those of the Korea Development Institute (KDI) and the International Monetary Fund (IMF) (2.5%).

On the 8th, KDI also lowered its annual forecast by 0.1 percentage points from 2.6% to 2.5%, citing sluggish domestic demand due to prolonged high interest rates. KDI analyzed, "While export growth is expanding, the recovery of private consumption and facility investment is delayed," and "growth is being adjusted mainly around domestic demand."

The expected consumer price inflation rate for this year is 2.5%, slightly down from the previous forecast of 2.6%. This is due to a baseline effect from the sharp rise in international oil prices and agricultural product prices over several months since August last year, along with a general downward stabilization trend in prices.

Kang Sung-jin, a professor of economics at Korea University, said, "Semiconductor exports are still strong, but domestic demand is weak, so it seems the economic growth forecast was lowered," adding, "The downward revision of the inflation forecast likely reflects the recent stabilization of consumer prices in the mid-2% range over the past few months."

Lee Chang-yong, Governor of the Bank of Korea, is presiding over the Monetary Policy Committee meeting held on the 22nd at the Bank of Korea in Jung-gu, Seoul. Photo by Joint Press Corps

Base Interest Rate Maintained at 3.5% for 13th Consecutive Time

The Monetary Policy Committee (MPC) of the Bank of Korea held the base interest rate steady at 3.50% per annum during a monetary policy meeting held at the Bank's headquarters in Jung-gu, Seoul, on the morning of the same day. The MPC has maintained the base rate at this level for 13 consecutive meetings since February last year, marking the longest period of rate stability in history.

The Bank of Korea's decision to hold the base rate is due to growing concerns over rising housing prices in the Seoul metropolitan area and increasing household debt. According to the Korea Real Estate Board, the Seoul housing sales price index rose by 0.76% in July compared to the previous month, the largest increase in 4 years and 7 months since December 2019 (0.86%).

Household debt is also rising sharply. At the end of Q2, the domestic household credit balance reached a record high of 1,896.2 trillion won, an increase of 13.8 trillion won from the previous quarter. Mortgage loan balances alone surged by 16 trillion won quarter-on-quarter in Q2. The balance of household loans at the five major banks also increased by 4.1795 trillion won this month alone, reaching 719.9178 trillion won as of the 14th.

This is interpreted as more people borrowing to buy homes amid rising housing prices. In this situation, lowering the base interest rate could further increase the already world-high household debt ratio.

Andonghyun, a professor of economics at Seoul National University, explained, "The Bank of Korea's goals are price stability and financial stability, and lowering the base rate would naturally lead to increased household debt and rising housing prices," adding, "Maintaining high interest rates is aimed at normalizing the market."

Seo Jisoo, a senior researcher at Woori Financial Research Institute, stated, "The recent overheating of the housing market centered on the Seoul metropolitan area and concerns over rising household debt are the main reasons for holding the base interest rate."

Inflation is also not yet a situation to be fully reassured about. The consumer price index (CPI) inflation rate rebounded from 2.4% in June to 2.6% in July. This is still above the Bank of Korea's inflation target of 2.0%. While the Bank expects the inflation slowdown trend to continue, it assessed that uncertainties in the inflation path, such as geopolitical risks and weather conditions, remain.

The fact that the United States has not yet lowered its base interest rate also weighs on the Bank of Korea's decision to keep rates steady. If South Korea cuts rates first while the interest rate differential with the U.S. is already large, the gap would widen further, potentially burdening the market. Professor Kang emphasized, "The U.S. has not yet cut rates, and with a large interest rate gap between Korea and the U.S., there is no benefit to preemptively lowering rates."

The market widely expects the U.S. Federal Reserve (Fed) to cut its base interest rate next month. Many anticipate that if the U.S. cuts rates in September, South Korea will follow with a rate cut in October. Joo Won, head of economic research at Hyundai Research Institute, said, "Given the current economic situation, the possibility of South Korea cutting rates before the U.S. is close to zero," adding, "If the U.S. cuts rates in September, we expect Korea to lower rates in October or November."