The Federal Reserve's interest rate hike measures have squeezed key allies of the United States, "several South Korean media outlets, including Yonhap News Agency, noticed on the 23rd. The Wall Street Journal reported on this topic that during Biden's presidency, the South Korean US alliance strengthened, while the South Korean economy also fell victim to the Federal Reserve's high interest rate policy. The report suggests that this has led to the current precarious state of the South Korean economy, but the Bank of Korea is finding it difficult to lend a helping hand.
The Wall Street Journal reported that since the beginning of 2022, the Federal Reserve has embarked on a historic interest rate hike, attempting to quell inflation that peaked at 9.1% in the middle of last year. For reasons such as protecting their own currencies, central banks around the world have also followed suit. Yonhap News Agency mentioned that in less than a year and a half, the Bank of Korea (Bank of Korea) has raised interest rates 10 times, pushed them up to 3.5% in January, and has since maintained them at this level.
This demonstrates how the decisions of the Federal Reserve - and the uncertainty surrounding them - will ripple globally, "the Wall Street Journal wrote. South Korea's KBS television station pointed out that South Korea itself is also facing problems such as controlling the domestic price rise rate and cooling the real estate market. The country's economy is currently showing an increasingly unstable trend, and the uncertainty of US interest rates has also brought troubles to the Bank of Korea.
The Wall Street Journal analyzed that although most economists believe that the Fed's rate hike cycle is nearing its end, there is still a big question mark about how long it will take for the rate cut to begin and how much it will be. Frederick Neumann, Chief Asia Economist at HSBC, said, "The Federal Reserve has already constrained the Bank of Korea. The risk here is that if the Federal Reserve is unable to cut interest rates for a long time, the South Korean economy may weaken in the face of excessively high interest rates, which could become an additional obstacle to economic growth
Since the beginning of this year, the exchange rate of Korean won that can be exchanged for one dollar has changed. Source: WSJ, same below
According to Yonhap, in fact, the "post pandemic" consumer boom in South Korea has come to a standstill, with long-term low housing prices and gradually slowing economic growth. According to the International Monetary Fund (IMF), South Korea's economic growth rate this year is only 1.4%. Since the Bank of Korea finally stopped raising interest rates at the beginning of this year, the exchange rate of the Korean won against the US dollar has depreciated by about 7%; The Federal Reserve has raised interest rates four times during the same period, causing the interest rate gap between South Korea and the United States to widen by about 2 percentage points. The Yonhap News Agency previously pointed out that in principle, if the interest rate of the Korean won, as a non critical currency, is significantly lower than the US dollar, the foreign investment pursuing returns will further outflow, exacerbating the risk of depreciation.
The South Korean government has a painful memory of currency depreciation, "the Wall Street Journal pointed out. During the Asian financial crisis in the late 1990s, a large amount of international capital flight caused the Korean won to halve against the US dollar. This crisis has led South Koreans to be called upon to contribute private gold jewelry to help the country repay its debt to the IMF. The Korean journalist who wrote the report said, 'This scene is deeply ingrained in the memory of Koreans.'.
Interest rate difference between South Korea and the United States from 2022 to present
Another major issue currently facing the Korean economy is the increasing debt burden on businesses and households. According to Nomura Securities, the proportion of corporate and household debt to gross domestic product (GDP) in South Korea rose to nearly 229% in the second quarter of this year, reaching the highest level in nearly 30 years. Especially with regards to household debt levels, South Korea ranks among the highest in the world, with a ratio to GDP of 105%. If "full tax" (also known as "full rent, standard tax") housing deposits are included, this proportion will rise to 157%. Nomura Securities stated that South Korean indebted households spend approximately 40% of their income on debt repayment, with domestic interest expenses approaching their highest level in decades.
In addition, the oil price increase caused by the conflict between Israel and the Palestinian Islamic Resistance Movement (Hamas) that broke out this month has added another complex factor to the decision of the South Korean Central Bank. After several months of loose monetary policy, data released by the South Korean Bureau of Statistics on October 5th showed that South Korea's consumer price index rose at a rate of 3.7% in September, far above the central bank's inflation target of 2%, marking the largest increase since April this year.
Last Thursday (19th), the Bank of Korea held a meeting of the Financial and Monetary Committee and decided to maintain the benchmark interest rate at 3.5% unchanged. This is the sixth consecutive time since February, April, May, July, and August of this year that the central bank has decided to freeze interest rates at interest rate meetings. Analysis suggests that the main factor behind this decision is still the uncertain trend of economic recovery.
On the 19th, Yonhap News Agency reported that although South Korea's real GDP growth rate in the second quarter of this year (0.6%) was greater than that of the first quarter, residents' consumption, imports and exports, investment, government consumption, etc. all shrank. Due to the greater decrease in imports than exports, there has been a surplus in trade balance. The industrial activity trend statistics in August show that the retail sales index has been declining month on month for two consecutive months, and consumption of durable and semi durable goods is sluggish. The report suggests that if the central bank only focuses on the sluggish economy and is eager to cut interest rates, household debt, exchange rates, prices, etc. will be a concern.
Cao Yongwu, a researcher at LG Business Research Institute, previously stated that with the increasing possibility of economic slowdown in major countries, it is difficult for the central bank to raise interest rates, leading to further economic contraction. Under the impact of the outbreak of the Israeli-Palestinian conflict, the pressure on rising prices may intensify, but it is also difficult to implement interest rate reduction policies. This "dilemma" is likely to persist until the first half of next year.
The Korean National Daily reported that the aftermath of the long-term interest rate hike in the United States is impacting global financial markets through various channels. The 2022 Trade and Development Report released earlier by the United Nations Conference on Trade and Development (UNCTAD) believes that the tight monetary policy aimed at combating inflation may cause more serious damage worldwide than the financial crisis in 2008 and the COVID-19 in 2020. The report found that for every one percentage point increase in interest rates by the Federal Reserve, the economic output of other rich countries will decrease by 0.5% within three years, while that of developing countries will decrease by 0.8%. The 2022 US interest rate hike alone could potentially reduce future income for developing countries by $360 billion by driving up the value of the US dollar.