UPDATE 3-S.Korea's weak industrial output bolsters view BOK to delay hikes

Fri Jun 27, 2014 3:12am EDT

* May industrial output -2.7 pct m/m (Reuters poll: -0.5 pct)

* May data adds to signs of slowing economic recovery

* Analysts see more chances of rate hike being delayed

* Next rate move still likely to be an increase (Updates with market reaction, new economist comment, forecasts on growth)

By Christine Kim and Choonsik Yoo

SEOUL, June 27 (Reuters) - South Korea's industrial output shrank the most in over five years in May, adding to signs the economic recovery is losing momentum and lending credence to the growing view the central bank would delay the start of rate hikes to support growth.

The latest gloomy reading on the manufacturing sector joins a recent slew of weak data, including tepid exports and a sharp dip in business confidence, clouding the outlook for Asian's fourth-largest economy.

Industrial output fell by a seasonally adjusted 2.7 percent in May from April, the Statistics Korea data showed on Friday, the worst monthly decline since a 10.5 percent drop in December 2008 and well below market expectations for a 0.5 percent fall.

Bond futures rose and one offshore investment bank pushed back the timing for an expected interest rate increase to 2015, from late this year -- a view shared by a significant minority of analysts.

"Judging from all the indicators so far this quarter, we have revised down our GDP forecast for this year from the previous 3.7 percent to 3.4 percent and delayed the expected time of a rate hike to the second quarter of 2015 from the final quarter of this year," said Raymond Yeung, senior economist at Australia and New Zealand Banking Group in Hong Kong.

The Bank of Korea, the nation's central bank, is also widely expected to lower its annual economic growth forecasts of 4.0 percent for this year, when it next publishes revised estimates on July 10.

Government officials have expressed concern about the slowing recovery, indicating they are prepared to offer steps to support the economy.

In comments earlier this month, central bank governor Lee Ju-yeol acknowledged the economic recovery has "paused," but said it was premature to make a call on whether the economy was about to enter into a slump.

Reflecting the cooling market expectations for a rate hike this year, the one-year treasury bond yield fell to 2.565 percent on June 20, the lowest closing level in 13 months, from around 2.635 percent seen early this month. It ended Thursday's session at 2.590 percent and stood at 2.582 percent as of 0702 GMT on Friday.

The won and stocks showed little reaction to the latest data.

ANALYSTS SPLIT

Tepid global demand and relatively lacklustre consumer spending at home have raised concerns of a rapid loss of momentum in the South Korean economy this quarter following strong growth over the past year.

Consumer sentiment has lagged in recent months as the public mood darkened after the April 16 sinking of a ferry that killed more than 300 people. The deadly accident - the worst in two decades - hurt domestic tourism and related services, putting a dampener on overall economic activity.

Officials at major companies such as smartphone maker Samsung Electronics Co Ltd and steelmaker POSCO have also recently warned of a delay in the global recovery.

Still, growth is set to top last year's 3.0 percent rate which explains why some analysts still expect a rate hike at the end of this year.

Rising inflationary pressures and expectations that exports will start to add to demand have seen the hawkish camp reluctant to change their views.

Inflation hit a 19-month high in May, rising an annual 1.7 percent and heading toward the Bank of Korea's target band of 2.5 to 3.5 percent. The BOK has said inflation will track within the band in the second half of the year.

Analysts were split about the timing for an interest rate increase in the latest Reuters survey conducted before the June 12 policy meeting. In the poll, which didn't include ANZ bank, 14 of 27 picked a hike for this year and the balance predicted a tightening next year.

The central bank has kept the rate steady at 2.50 percent since cutting it by 25 basis points in May last year.

SLUGGISH EXPORTS

South Korea's economy grew 0.9 percent each in the first quarter of this year and the fourth quarter of 2013, slower than a 1.1 percent gain in the third quarter of 2013 but well above the 0.5 percent average rise seen in 2012.

Exports have been sluggish in recent months, reflecting an uneven global economic recovery.

Analysts expect South Korean exports to bounce 5.1 percent this month over a year ago, compared with an actual 1.0 percent loss in May, a Reuters survey showed this week. The government will release June export figures on July 1.

Most analysts see only a slim chance of the BOK cutting interest rates soon because of rising inflation pressure.

"(The May output reading) was a bit worse than we thought but you can't say it was so serious as to create a serious problem or change the whole picture," said Kim Chul-ju, head of the finance ministry's economic policy bureau.

A central bank official also said the May data was affected a lot by "non-economic factors", referring to long holidays - the most since 2000 for the month of May according to an economist at Korea Investment and Securities.

The statistics agency data also showed that service-sector output rose by a seasonally adjusted 0.6 percent in May on a monthly basis after a revised 1.2 percent decline in April.

(Editing by Shri Navaratnam)

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