The Federal Reserve’s decision to hold its benchmark interest rate steady while signaling a hawkish stance on monetary policy has bolstered the likelihood that the Bank of Korea will maintain its current interest rates for an extended period.
With the Fed remaining vigilant against inflation, the Bank of Korea has less justification for lowering rates. Moreover, if the Middle East conflict persists, upward price pressures could intensify, potentially forcing the Bank of Korea to consider rate hikes in a worst-case scenario.
According to the Bank of Korea and other sources, the Fed kept its benchmark interest rate between 5.25% and 5.50% during its March 19-20 Federal Open Market Committee (FOMC) meeting.
At this meeting, dissenting opinions favoring a rate cut decreased from two to one (Director Christopher Waller). The Fed revised its economic growth and core inflation forecasts upward to 2.1% and 2.6%, respectively, and raised its long-term policy rate forecast from 2.5% to 2.6%.
During a press conference, Fed Chair Jerome Powell highlighted economic uncertainties stemming from the Middle East situation, stating that without progress on inflation, rate cuts are off the table.
U.S. Hawkish Hold… Strengthens Case for Prolonged Rate Pause by Bank of Korea
As the Fed continues its cautious approach to rate cuts, the Bank of Korea is expected to maintain its current benchmark interest rate for the foreseeable future. With diminishing market expectations for Fed rate cuts, analysts suggest the Bank of Korea has even less reason to lower rates.
While the median interest rate forecast in the March FOMC dot plot remained unchanged, inflation concerns within the Fed have grown. Kim Ji-na, an analyst at Eugene Investment & Securities, noted that an equal number of committee members advocated for a rate freeze and a single rate cut this year, indicating persistent inflation concerns within the Fed.
Global investment banks have also interpreted the Fed’s stance as hawkish, tempering expectations for rate cuts.
The Bank of Korea’s New York office reported that Bank of America (BoA) observed Chair Powell’s significant focus on the risks of inflation overshooting and rising inflation expectations.
Deutsche Bank (DB) emphasized the importance of progress in reducing core goods inflation as tariff impacts diminish, noting increased uncertainty in the path for future rate cuts.
Middle East Conflict Fuels Oil Price Concerns, Raising Inflation Risks… Rate Hikes Possible if War Persists
The Fed’s monetary policy direction will likely hinge on how the ongoing U.S.-Israel-Iran conflict impacts the economy.
Ha Geon-hyeong, an analyst at Shinhan Investment Corp., highlighted the Fed’s explicit mention of uncertainties regarding the Middle East situation’s impact on the U.S. economy. He noted that they’ve begun to recognize the ripple effects on energy prices and supply chains as significant tail risks.
The Bank of Korea’s policy decisions are also expected to be heavily influenced by Middle East developments. Given South Korea’s higher dependence on energy imports compared to the U.S., the impact of high oil prices could be more severe, increasing the likelihood of a hawkish stance from the Bank of Korea.
Ahn Jae-kyun, an analyst at Korea Investment & Securities, stated that the shock from high oil prices will inevitably be greater for South Korea due to its economic structure, suggesting a more hawkish monetary policy from the Bank of Korea. It believes the risk of rate hikes this year has increased, and the March FOMC results further reinforce this outlook.
A hawkish sentiment is spreading within the Bank of Korea’s monetary policy committee. Member Hwang Geon-il recently noted the rapidly changing external environment due to the Middle East situation, advocating for a cautious neutral stance in future monetary policy. Member Lee Soo-hyung added that the February dot plot didn’t account for the war, and both upward price risks and downward growth risks have since increased.
If the Middle East conflict leads to a sharp rise in international oil prices, it will eventually push up domestic import prices, leading to higher consumer prices over time. NH Financial Group forecasts that if the Iran war lasts a year, the Bank of Korea will shift to rate cuts to mitigate economic shock. However, if the war extends beyond a year, they predict a policy shift from easing economic downturns to controlling inflation, potentially resulting in rate hikes.
Bank of Korea Deputy Governor Yoo Sang-dae stated during a market review meeting that the uncertainty in the Fed’s monetary policy path has increased following the recent FOMC meeting results, adding that external risk factors, including ongoing Middle East instability, persist.
He emphasized that given the high volatility in domestic financial and foreign exchange markets, it will closely monitor developments in domestic and external risk factors and their economic impacts, responding promptly with market stabilization measures if necessary.