First time in over 3 years! The Bank of Korea raised interest rates on Thursday. Inflation and the depreciation of the won are driving a policy shift

The Zhitong Finance App learned that a survey of economists showed that since inflation is still far above its target of 2%, the Bank of Korea is expected to raise interest rates for the first time in more than three years on Thursday and raise interest rates again before the end of the year.

Consumer inflation accelerated to 3.2% in June, hitting a new high in two and a half years. This is the fourth month in a row that this figure is higher than the Bank of Korea's target of 2%. The average inflation rate is expected to be around 3% in the second half of this year, paving the way for the start of an austerity cycle.

Stronger economic growth, rising housing prices, and high residents' debt have provided room for policy makers to tighten their policies. The economic growth rate in the first quarter was the fastest in nearly six years. Bank of Korea Governor Shin Hyun-song said that in the context of high oil prices caused by the war between the US and Israel against Iran, inflation is expected to exceed the Bank of Korea's target for quite some time, so it is necessary to raise interest rates.

In a survey conducted from July 7 to 13, all but 1 of the 37 economists expected the Bank of Korea to raise the benchmark interest rate to 2.75% on July 16.

Barclays economist Bum Ki Son said, “At the last meeting, the Bank of Korea raised its economic growth and inflation forecasts at the same time, which has sent a relatively clear signal. The governor made it clear that in rare cases, the central bank's responsibilities did not clash, but rather pointed in the same direction of raising interest rates. We think this meeting is likely to be the starting point for them to implement interest rate hikes.”

The central banks of Australia, New Zealand, Indonesia, and the Philippines have previously tightened their policies.

Most economists (28 out of 31) expect another rate hike by the end of the fourth quarter, pushing the policy rate to 3.00%. While one person predicted the key interest rate would reach 3.25%, the remaining two predicted 2.75%.

The bitmap released in May also shows that most board members expect the policy interest rate to reach 3% within the next six months.

The median forecast shows that the Bank of Korea will raise the key interest rate to 3.25% in the first quarter of 2027 and maintain it until at least the end of next year, which is 25 basis points higher than the forecast in the May survey.

This hawkish outlook reflects expectations of excessive inflation and strong economic growth. Inflation is expected to average 2.7% this year and 2.2% next year; GDP is expected to grow 2.8% in 2026 and 2.1% in 2027.

The high price pressure is expected to be mainly driven by high global oil prices, and oil prices have been fueled by the resurgence of the war in Iran. The weakening of the won has also increased supply-side pressure. The won has fallen by more than 4% this year, thus driving up the cost of imported raw materials.

According to another survey, the won is expected to depreciate further by more than 1% by the end of July.

Benson Wu, Korean economist at Bank of America Global Research, said, “We expect the depreciation of the won to be a central focus. Although policymakers have intensified verbal intervention and coordinated the transmission of information among various ministries in recent weeks, the impact on the won appears to be limited.”

Benson Wu added: “Therefore, we will be watching closely for any signal that could open the door to continuous rate hikes.” However, he also said that this is not the Bank of America's benchmark forecast situation.