S. Korean central bank raises interest rate to 2.5%

The Bank of Korea (BOK) lifted the benchmark seven-day repurchase rate to 2.5 percent from 2.25 percent at a monthly monetary policy meeting after inflation hit 4.1 percent in October.

That year-on-year increase in consumer prices was slightly outside the central bank's comfort zone for inflation. The bank's inflation target is 3 percent, though that includes what it calls a “tolerance range” of plus or minus 1 percentage point.

The increase in inflation was mainly driven by higher prices for farm produce, the central bank's policy committee said in a statement.

“Upward pressures are expected to continue” in line with strength in the domestic economy and increased international raw material costs despite some respite expected from stabilizing vegetable prices, said the committee, which is chaired by BOK Gov. Kim Choong-soo.

The bank removed the wording “under the accommodative policy stance” from its statement, suggesting that interest rates will continue to rise to more normal levels after two years of super-low borrowing costs.

The Bank of Korea slashed its interest rate a total of 3.25 percentage points to a record low 2 percent between October 2008 and February 2009, joining other central banks in combating the effects of the global financial crisis and economic downturn that followed. It raised the borrowing cost to 2.25 percent in July amid solid growth prospects for the domestic economy and budding inflation worries.

Tuesday's decision was widely expected. A total of 11 economists at 13 financial institutions surveyed by Yonhap Infomax, the financial news arm of Yonhap news agency, predicted the bank would increase the rate to 2.5 percent.

The bank cited the possibility of increased economic volatility and exchange rate movements in “major countries” as international risk factors, though was largely upbeat on the outlook for South Korea.

The bank did not elaborate on the currency risks but international attention has recently focused on Washington's criticism that Beijing keeps its currency, the yuan, artificially weak to gain a trade advantage.

There are concerns that the spat over how to reduce the large U.S. trade deficit with countries like China, Japan and Germany could resurrect destructive protectionist policies and hurt emerging countries such as South Korea.

South Korea's economic expansion has moderated recently. Growth in the three months ended Sept. 30 slowed to 0.7 percent from 1.4 percent in the previous three months.

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