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Central Bank Raises Key Rate to 3 pct to Tame Inflation
South Korea's central bank raised the key interest rate on March 10 by a quarter percentage point as rising oil and food prices and economic growth are putting upward pressure on inflation.

Bank of Korea (BOK) Gov. Kim Choong-soo and his fellow policymakers hiked the benchmark seven-day repo rate, dubbed the base rate, to 3 percent, as widely expected.

The rate increase, which was not unanimous, came on the heels of a rate freeze in February and marked the fourth rate hike since July last year from a record low of 2 percent.

The BOK chief warned that the country will face growing inflationary pressure, affected by both supply and demand factors, and added that the bank's cycle of monetary tightening will continue in a gradual manner.

"The rate hike is expected to contribute to curbing inflationary pressure and inflation expectations," Gov. Kim told a press conference after a rate-setting session.

"Economic recovery in major economies and improvement in the local labor markets are expected to offset burdens stemming from gains in oil prices."

Kim said gradual and steady normalization of the policy rate is seen as more effective than a sharp increase, hinting that the BOK's pace of a rate increase is not steep.

South Korea is facing growing difficulties in taming inflation as rising oil and commodity prices, and a gain in food costs, sparked by the outbreak of foot-and-mouth disease, are exerting upward pressure on consumer inflation.

The country's consumer prices jumped 4.5 percent in February from a year ago, up from 4.1 percent in January and the fastest growth in 27 months. Consumer prices surpassed the upper ceiling of the BOK's 2-4 percent inflation target band for the second straight month.

Core inflation, which excludes volatile oil and food prices, grew 3.1 percent in February from a year earlier, the most in 18 months, indicating that demand-pull inflationary pressure is growing.

The BOK governor said consumer prices may surpass the bank's previous estimate of 3.7 percent in the first half although surges in inflation will ease in the second half.

The government has been making efforts to stabilize prices since it declared a "war" on inflation, mindful of concerns that higher inflation will undercut the growth momentum. President Lee Myung-bak said that inflation has become a bigger concern that economic growth this year.

The government has unveiled a set of anti-inflation measures such as freezing public utility fees, easing import taxes on basic goods and cracking down on price-rigging. But despite such all-out efforts, there is no sign of easing in inflation yet.

The Korean economy is on a solid recovery track, aided by brisk exports and a pickup in domestic demand. Industrial output grew 13.7 percent on-year in January and the on-year growth of the indicator on the country's future economic outlook rebounded for the first time in 13 months.

Gov. Kim told lawmakers on Wednesday that inflation in March is likely to grow at a similar pace seen in February, though it will not surpass 5 percent.

Analysts said the BOK is forecast to continue to normalize its soft policy stance taken to fight the global financial turmoil, but the pace and the speed of a rate increase will largely hinge on external economic conditions.

"The BOK is expected to continue to raise the rate, but there is a high chance that it will take a pause next month as it needs to monitor external economic factors and assess the impact of the rate hike on household debt and the economy," said Lee Sung-kwon, chief economist at Shinhan Investment Corp.

The BOK said that gains in oil prices, spurred by political unrest in the Middle East and North Africa, and the eurozone debt crisis will serve as main downside risks to growth.

The government is targeting 5 percent economic growth this year while containing inflation at around 3 percent. The BOK's inflation projection stands at 3.5 percent for 2011.






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