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South Korea Central Bank Holds Rates, Hints at Cut to Come

Kim Choong-soo, Governor of the Bank of Korea.
Ahn Young-Joon
Kim Choong-soo, Governor of the Bank of Korea.

South Korea's central bank held interest rates steady for a third consecutive month on Friday, as expected, and lowered growth and inflation expectations as well as indicating that a rate cut could come in the first half of this year.

The Bank of Korea left the base rate unchanged at 2.75 percent in a split vote after two 25 basis point reductions last year.

Governor Kim Choong-soo cut the bank's 2013 growth forecast to 2.8 percent, down from an earlier estimate of 3.2 percent made last year. It was the third cut to the outlook in a year.

Price pressures will fall as well, amid weaker than expected economic activity, and Kim cut the annual inflation forecast for this year to 2.5 percent from an earlier estimation of 2.7 percent.

Before the rate decision, 17 out of 22 analysts had forecast the Bank of Korea would keep the base rate steady at 2.75 percent, while more than half see a rate cut likely to happen before June this year to lend an early boost to the economy.

(Watch Now: Korea isWell Positioned for Recovery in 2013)

"I want to say that we are always open to the possibility (of a rate change). We do not have a rigid monetary policy," Kim said.

Markets in Korea were little affected by the rate decision or the central bank governor's remarks, while the won rallied on Friday on the back of positive economic data from China as well as a rate hold by the European Central Bank.

The central bank said in a statement shortly after the rate hold was announced that downside risks from the global economy still remain, although it is showing a mild recovery.

It also said that the negative output gap in Asia's fourth largest economy would persist for a considerable time. Kim added that the central bank currently sees the economic situation in the U.S. improving in 2014 while current conditions are fair in China.

(Read More: Investing In South Korea)

It was the first interest rate meeting held after the ruling conservative party's Park Geun-hye, a daughter of former military ruler Park Chung-hee, narrowly won the election last month to be the country's president until early 2018.

She has yet to unveil detailed economic policies for the incoming government but has campaigned to help ease the financial burden from heavy household debt, create more well-paid jobs and increase support for smaller enterprises.

Park has pointed to household debt as one of South Korea's several festering economic problems that she will work towards resolving, and analysts said that a rate cut may be part of the remedy.

"Whereas Lee Myung-bak's administration focused on growth, Park has focused on handling household debt burdens from an early stage," said Park Hyung-min a fixed-income strategist. Shinhan Investment Corp. "A rate cut would be easy and quickfire way to move towards that goal."

South Korea's export-reliant economy had widely been tipped to recover from the final quarter of 2012 but recent data provided still a mixed picture, with November industrial production expanding but December exports slumping.

Inflation has stood well below the central bank's 3 percent target since early last year as the slow economic recovery dampened demand, with the December reading hitting a four-month low of 1.4 percent on an annual basis.

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