August 14, 2014 / 5:10 AM / in 3 years

UPDATE 3-S.Korea cuts rate in policy shift seen pressured by govt

* Base rate cut to 2.25 pct vs 2.50 pct (Reuters poll 2.25 pct)

* Rate cut seen in line with govt policy to boost growth

* Bank of Korea’s independence in question

* Slim majority see hike as next move: Reuters snap poll (Adds snap poll, updates markets)

By Christine Kim and Choonsik Yoo

SEOUL, Aug 14 (Reuters) - South Korea’s central bank cut the benchmark interest rate for the first time in 15 months on Thursday, a dramatic shift from its hawkish policy stance that many analysts see as caving in to government pressure to shore up faltering growth.

The Bank of Korea’s monetary policy committee cut its base rate by 25 basis points to 2.25 percent, citing weak sentiment among the consumers and companies. One of the seven members dissented and voted to keep the rate unchanged.

The cut was widely predicted by economists, many of whom revised their rate calls in recent weeks after new Finance Minister Choi Kyung-hwan last month launched a series of stimulus measures to spark activity, and placed overt pressure on the central bank to ease policy.

The rapid turnaround in the central bank’s stance, which until a month ago had kept markets primed for a rate hike as the next move, has raised uncomfortable questions about its independence.

“The question of central bank independence is an age-old one, especially for Korea,” said Wellian Wiranto, economist at OCBC Bank in Singapore, referring to the growing controversy over the Bank of Korea’s independence.

“Would the BOK have cut rate today if there wasn’t as loud a chorus for monetary policy accommodation as it happened? Perhaps it would have in any case, but it might have waited one or two more meetings to establish whether business sentiment can get past the Sewol effect.”

The Sewol ferry sank in mid-April, killing more than 300 people in the country’s worst maritime accident in two decades, darkening the public mood and hurting a broad swathe of tourism-related industries.

Bond futures fell and the won rose sharply as Bank of Korea Governor Lee Ju-yeol adopted a generally neutral policy stance, which disappointed some who had expected a more dovish tone.

A slim majority of 19 analysts surveyed by Reuters late on Thursday predicted there would be no further cut in the benchmark rate, but 7 of the analysts still expected another policy easing in the coming months - a sign of the marked reversal in sentiment in recent weeks.


Governor Lee, who promised to beef up the central bank’s image as an independent interest rate-setter when he took office in April, declined to respond to questions at the news conference on whether he felt pressured from outside.

However, in the policy statement accompanying the rate cut, Lee tried to quell doubts about the central bank’s independence, and hinted of his frustrations at having to defend his credibility.

“There has been much talk (outside the central bank) about interest rates, which I find undesirable. If this occurs frequently, then the public may start doubting the neutrality of the central bank. Remarks that pressure the central bank are also undesirable,” Lee said.

“We will try to build public trust through our future policy meetings. Even if it takes time that is the right way.”

It was the first rate cut since May last year, which was also seen as cooperating with the government under a different governor. The cut brought the base rate, which applies to the central bank’s seven-day repurchase agreements, to its lowest since early November 2010.

In a Reuters survey conducted before Thursday, 27 of 31 analysts forecast a cut while the remaining four saw no change. Nine of the 27 analysts had predicted another reduction in the rate while 14 expected the next move to be a hike.

Governor Lee acknowledged that the latest rate cut would lift the already heavy household debt burden, but expected this to be offset by the effects from an improving household balance sheet after the government’s stimulus measures.

Most analysts agreed the monetary easing would be positive for the economy.

“I think the rate cut can bring a positive effect on the housing markets. There was depressed demand in the housing markets due to the unstable market situation,” said Kim Jong-su, economist at Taurus Investment & Securities.

Second quarter growth in South Korea slowed to its weakest pace in over a year, rising just 0.6 percent on a seasonally adjusted basis, as momentum in Asia’s fourth-largest economy cooled amid tepid exports and anaemic domestic consumption.

The Bank of Korea currently sees the economy expanding by 3.8 percent this year from 3.0 percent last year - a welcome pick up but still lingering below growth rates seen before the 2008-2009 global financial crisis.

Stimulus measures introduced by Choi over the past month included $11 billion in public spending plans, easing of mortgage curbs, a new lending facility for small companies and plans to develop seven major service industries.

The Bank of Korea expects economic growth to pick up from the current quarter, but Choi has said the underlying weakness of the economy was more serious than the headline figures suggests.

Consumer inflation has stayed below the lower end of the central bank’s 2.5-3.5 percent target band for two years thanks to a combination of stable global commodities prices, a strengthening won and weak consumer demand.

Editing by Shri Navaratnam

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