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(LEAD) (News Focus) BOK puts sentiment before numbers

2014/08/14 16:22

(ATTN: ADDS details in paras 11, 19-20; RECASTS para 21)

By Lee Minji

SEOUL, Aug. 14 (Yonhap) -- With policy coordination writ large in the Bank of Korea's (BOK) first rate cut in more than a year, analysts say the latest decision that prioritized sentiment over economic indicators may reflect the central bank's feeble footing in the face of strong political pressure.

The BOK's monetary policy committee on Thursday lowered the policy rate by a quarter percentage point to 2.25 percent in a split decision, with one member voting for a rate freeze. The decision marked the first rate cut since May 2013, when the board, led by then-BOK Gov. Kim Choong-soo, slashed the rate to 2.5 percent in a surprise move.

BOK Gov. Lee Ju-yeol said the move was aimed at blocking sluggish sentiment from further adding onto downside risks. The August rate cut, coupled with the government's stimulus measures, will be effective in boosting sentiment that has tumbled following a mid-April ferry sinking that left more than 300 people dead, he said.

Asia's fourth-largest economy has seen a sharp deterioration in sentiment following the Sewol ferry disaster, one of the worst peacetime tragedies to grip the nation. The consumer sentiment index fell to an eight-month low in May and has recently weakened to the same level after a brief recovery in June.

Such a turn of events has prompted the government and the ruling party to pressure the central bank to cut the rate and take part in amplifying the effects of Finance Minister Choi Kyung-hwan's growth initiative that centers around a 40 trillion won (US$38.9 billion) stimulus package.

Choi's full-fledged policy drive, which has earned the nickname "Choinomics," is regarded as the pivotal force behind the ruling party's victory in recent by-elections as the public reacted to efforts to prop up weak domestic demand.

The finance minister, who doubles as deputy prime minister for economic affairs, himself had hinted at a rate cut, saying the finance ministry and central bank "share views" on the economy. Late last month, Choi even remarked that he believes "monetary authorities will act in line with the views that the economy is going through a difficult time."

   The ruling Saenuri party has also drummed up support for Choinomics with party leader Kim Moo-sung urging the BOK to "take action" and to "think out of the box and make the (necessary) decision."

   Analysts say such a political backdrop has pressed the central bank to wield its policy instrument for the first time in 15 months, even though economic circumstances point to mixed views on the need for a rate cut.

Indicators have shown signs of domestic recovery, with industrial output growing 2.9 percent on-month in June, the fastest growth in four years and nine months, according to Statistics Korea. The data also showed that production in the service sector and retail sales each gained 1.6 percent and 0.3 percent from the previous month.

While the rate cut may give a 0.05-0.1 percentage point boost to growth, South Korea's growth outlook already stands at a moderate level of 3.8 percent, analysts say, with a rate cut posing risks to the country's already-heavy household debt.

"We see limited benefits from a rate cut, but it will be symbolic of the determination of the authorities to revive the economy," said Sharon Lam of Morgan Stanley in a poll by Yonhap Infomax, the financial news arm of Yonhap News Agency, ahead of the BOK rate setting session. "Given such high expectations for a cut, it may be difficult for the BOK not to deliver, as failing to do so may hurt sentiment now," she said.

Analysts also say the central bank was left with little option other than to lower the rate.

"The government is pressured to show the public that it is doing something. They don't have much time or the option to measure the pros and cons of a rate cut or its impact on economic fundamentals," said Kim Sang-hoon of Hana Daetoo Securities.

"With the fiscal package already unveiled, a rate cut is a key event that can make media headlines and further boost sentiment," he said.

The BOK chief, however, distanced himself from views that the central bank was coerced into lowering the base rate.

"The rate cut was based on the monetary policy committee's independent decision making," he said. "Remarks (urging the central bank to cut the rate) are undesirable but it is also undesirable for the central bank to react."

   With the central bank having shown its efforts in maximizing policy coordination, analysts say the BOK is likely to be more prudent with further monetary policies.

"It probably feels that it has done as much as it could with today's rate cut," said OCBC Bank economist Wellian Wiranto.

"Despite inadvertent calls from the government for more rate cuts, the likelihood that the economy will be picking up speed from here will give the central bank the space to dismiss these urges," he said, forecasting the BOK to hold the rate until the end of the year.

HI Investment & Securities analyst Seo Hyang-mi agreed that the BOK is likely to be more data-dependent in upcoming months.

"The policy committee's statement said it will keep a close eye on shifts in monetary policies in major economies and household debt trends. They are unlikely to further cut the rate unless there are significant fallouts in economic indicators."

   One of 21 analysts forecast the base rate to stay at 2.5 percent to year-end, while a majority of 14 analysts expected it to reach 2.25 percent, according to the Yonhap Infomax poll. Six analysts projected the base rate to fall to 2 percent after two rate cuts.

Bank of Korea Gov. Lee Ju-yeol attends a monetary policy committee meeting on Aug. 14, 2014. (Yonhap)

Bank of Korea Gov. Lee Ju-yeol attends a monetary policy committee meeting on Aug. 14, 2014. (Yonhap)