South Korea would consider a quantitative easing or asset purchase program, should the economy fall into serious recession or head towards deflation, hinted members of the Bank of Korea’s (BOK) monetary policy committee, but dismissed the possibility of quantitative easing for now.

According to written answers to questions raised by Representative Kim Sung-sik of opposition Bareunmirae Party on Sunday, BOK monetary policy committee members said the central bank would launch a quantitative easing program or cut the policy rate to the zero territory to combat against serious economic recession or deflation.

Kim – a member of the National Assembly’s strategy and finance committee – previously sent a list of questions asking about the central bank’s possible means to prevent the country from falling into recession to seven monetary policy committee members including BOK Governor Lee Ju-yeol, and the committee has submitted answers based on opinions of majority members rather than each individual.

Responding to a question asking about the possibility of launching a quantitative easing program or lowering the benchmark policy rate to the zero percent territory, the members said that the Bank of Korea is not considering any of such non-traditional policy means for now because it can still cope with the current economic conditions with traditional monetary policy.

The central bank noted that it can use traditional monetary policy tools such as changing discount rates, open market operations, and changing reserve requirements should the country take a hit from any extraordinary changes in financial and economic conditions in the future.

But if a deep recession or deflation is deemed to be imminent at a time when there is limited maneuvering room for monetary policy, the central bank will consider a quantitative easing program, said the monetary policy committee members.

They expect quantitative easing such as a government debt purchasing program would help the financial system and real economy recover by lowering long-term market interest rates and improving spending and investor sentiment.

But they also warned that a prolonged low interest rate environment and quantitative easing could hinder financial stability because they could entice excessive leverage and risk taking. Also, they projected capital outflow pressure could increase due to a narrowing gap between local rates and foreign rates and rising expectations for a devaluation in currency, particularly for Korea, which does not have internationally trading currency.

But they were reluctant to give a clear answer to a question about the lowest rate level that could cause monetary policy to be ineffective. Some market experts warn that if the BOK slashes the current 1.50 percent policy rate to a historic low of 1.25 percent, concerns over the effectiveness of rate cutting would increase.

A majority of experts bet on a cut in the BOK policy rate from 1.50 percent to 1.25 in the upcoming monetary policy meeting on Wednesday in line with developed economies as the United States.

The three-year government bond yield finished Friday at 1.28 percent in Seoul – 0.22 percentage points lower than the policy rate of 1.50 percent – reflecting growing expectations for a rate cut by a quarter percentage point.

Monetary committee members explained that when policy rates fall below the so-called “effective low” of interest rates, monetary policy becomes ineffective or unexpected negative impact increases in the advent of an additional rate cut.

They noted that traditionally, there are concerns that an economy could fall into a “liquidity trap”, a situation in which monetary policy becomes ineffective with expectation for additional monetary easing policy fading away after steep easing.

The members also warned of side effects from significant rate cuts to a level below normal following a financial crisis such as deteriorating profitability of financial institutions and growing uncertainty in financial and foreign-exchange markets due to large-scale capital outflow.

They also considered that a significant slowdown in China’s economy triggered by lengthy trade disputes between the U.S. and China and anti-government protests in Hong Kong could be so-called “black swan” events that could damage the Korean economy. They also are keeping a close eye on any ripple effect of Japan’s stricter export curbs on Korea.

A black swan is an extremely rare event that could severely damage one’s economy. It is unpredictable beforehand.

Because the Korean economy is closely linked with that of China, the country’s largest trading partner, a sharp contract in the Chinese economy could take a heavy toll to the Korean economy, the members answered.

With regards to Japan’s export curbs on Korea, the committee members said that “influence on our economy is yet limited,” but it could shoulder considerable burden on the Korean economy if Japan’s export restrictions continue for long term, and export control intensifies in the future given trade volume between the two countries and industry ties.

By Lee Yu-sup and Lee Eun-joo

[ⓒ Pulse by Maeil Business Newspaper & mk.co.kr, All rights reserved]