By Park Chong-hoon
Over the past week, Korea reported 577 daily confirmed COVID-19 cases on average. The number of cases has not been declining, contrary to expectations that the vaccine rollout would reduce the domestic caseload. While vaccination delays and rising infections are fueling concerns about the Korean economy, we still expect solid economic growth this year. Along with this growth, we forecast that inflation will rise. Rising inflation is likely to prompt the Bank of Korea (BOK) to raise interest rates early next year, after having lowered them during the pandemic.
First of all, Korea's economic growth and inflation appear to be rising more steeply than anticipated. The first-quarter gross domestic product (GDP) growth rate of 1.6 percent, along with April's inflation rate of 2.3 percent, were both higher than the market expectations of 1.1 percent and 2.1 percent, respectively. Not only did Korea's economy grow robustly, but the quality of the growth was also good. Exports were very strong, expanding 11.7 percent in the first quarter based on customs data. Imports grew even faster, led by intermediate goods and machinery, as firms increased capital investments amid improving global growth prospects.
Exports are well balanced, according to the latest data. All 15 major export items showed growth in April, and exports to all regions increased. These figures mean that there is less risk of a reversal in the event of a sudden shock in a specific industry or export market. One concern is that the pace of monthly export growth slowed in April due to the semiconductor shortage in the automobile industry. This situation will be transient, and exports will remain strong for the rest of this year.
Prices are also rising rapidly, even with a steady increase in virus cases. Inflation hit a two-year high in April, and is likely to stay above 2 percent for the time being, due to last year's low base and pent-up demand. Inflation will likely average 2.3 percent in the current quarter.
Price components, such as transportation, leisure, hotels and restaurants, have already been rising recently, and the pace of gains could accelerate, as an acceleration in the vaccine rollout boosts demand. Some inflation components ― such as education-related prices ― are still falling from previous year levels because of social distancing, so there is room for a rapid rise when the restrictions are eased.
Last year, household debt rose rapidly due to the virus. The government is trying to tackle household debt through a variety of macro-prudential policies. My core view is that household debt is unlikely to develop into a significant risk, as interest rates are still low and the BOK is providing proper guidance, which should stabilize interest rate volatility. However, if Korea normalizes interest rates earlier than expected (depending on the U.S. Fed's policy), the household debt risk could become a reality, so we need to be prepared for this possibility.
Low interest rates continue to drive up Korea's real-estate prices, contrary to expectations that housing prices would stabilize, with the expansion of supply according to the government's measures, announced in early February.
At the BOK's latest Monetary Policy Committee meeting in April, one member advocated changes to monetary policy in order to address financial imbalances. With interest rates so low, asset prices such as real estate are rising, household debt is increasing, and economic inequality is worsening.
Considering the current pace of economic growth and inflation, we believe that the BOK will let market interest rates rise slowly, unless it sees sudden volatility. Given current economic trends, we now expect the BOK to start raising interest rates in the first quarter of 2022 ― earlier than my previous view of a third-quarter "lift-off." It is time to start preparing for a gradual normalization of interest rates.
Park Chong-hoon (ChongHoon.Park@sc.com) currently heads the Korea Research Team at Standard Chartered Korea. Before joining the bank, he worked as a senior research fellow and head of telecommunication policy at the Korea Information Society Development Institute (KISDI).
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First of all, Korea's economic growth and inflation appear to be rising more steeply than anticipated. The first-quarter gross domestic product (GDP) growth rate of 1.6 percent, along with April's inflation rate of 2.3 percent, were both higher than the market expectations of 1.1 percent and 2.1 percent, respectively. Not only did Korea's economy grow robustly, but the quality of the growth was also good. Exports were very strong, expanding 11.7 percent in the first quarter based on customs data. Imports grew even faster, led by intermediate goods and machinery, as firms increased capital investments amid improving global growth prospects.
Exports are well balanced, according to the latest data. All 15 major export items showed growth in April, and exports to all regions increased. These figures mean that there is less risk of a reversal in the event of a sudden shock in a specific industry or export market. One concern is that the pace of monthly export growth slowed in April due to the semiconductor shortage in the automobile industry. This situation will be transient, and exports will remain strong for the rest of this year.
Prices are also rising rapidly, even with a steady increase in virus cases. Inflation hit a two-year high in April, and is likely to stay above 2 percent for the time being, due to last year's low base and pent-up demand. Inflation will likely average 2.3 percent in the current quarter.
Price components, such as transportation, leisure, hotels and restaurants, have already been rising recently, and the pace of gains could accelerate, as an acceleration in the vaccine rollout boosts demand. Some inflation components ― such as education-related prices ― are still falling from previous year levels because of social distancing, so there is room for a rapid rise when the restrictions are eased.
Last year, household debt rose rapidly due to the virus. The government is trying to tackle household debt through a variety of macro-prudential policies. My core view is that household debt is unlikely to develop into a significant risk, as interest rates are still low and the BOK is providing proper guidance, which should stabilize interest rate volatility. However, if Korea normalizes interest rates earlier than expected (depending on the U.S. Fed's policy), the household debt risk could become a reality, so we need to be prepared for this possibility.
Low interest rates continue to drive up Korea's real-estate prices, contrary to expectations that housing prices would stabilize, with the expansion of supply according to the government's measures, announced in early February.
At the BOK's latest Monetary Policy Committee meeting in April, one member advocated changes to monetary policy in order to address financial imbalances. With interest rates so low, asset prices such as real estate are rising, household debt is increasing, and economic inequality is worsening.
Considering the current pace of economic growth and inflation, we believe that the BOK will let market interest rates rise slowly, unless it sees sudden volatility. Given current economic trends, we now expect the BOK to start raising interest rates in the first quarter of 2022 ― earlier than my previous view of a third-quarter "lift-off." It is time to start preparing for a gradual normalization of interest rates.
Park Chong-hoon (ChongHoon.Park@sc.com) currently heads the Korea Research Team at Standard Chartered Korea. Before joining the bank, he worked as a senior research fellow and head of telecommunication policy at the Korea Information Society Development Institute (KISDI).
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