South Korea's central bank kept its base rate steady at 2.50 percent, as widely expected, saying inflation is forecast to remain stable due to a continued negative output gap in the economy but prices will rise in coming months due to imbalances in agricultural supply from bad weather and an unfavourable comparison with very low rates last year.
The Bank of Korea (BOK), which cut its rate in May, repeated last month's statement that Korea's economy was continuing to expand, albeit moderately, mainly led by exports. The economy's negative output gap will remain for a considerable time but gradually narrow.
Korea's economy recorded its strongest quarterly growth rate in nine quarters in the second quarter of this year, with Gross Domestic Product up by 1.1 percent from the first, for annual growth of 2.3 percent, up from 1.5 percent in the previous quarter. Fresh government spending helped boost growth.
Last month the BOK raised its 2013 growth forecast to 2.8 percent, with GDP rising 3.7 percent in the second half of the year from 1.9 percent in the first half.
South Korea's inflation rate rose to 1.4 percent in July from 1.0 percent in June due to higher prices of agricultural and livestock products, as well as petroleum products. The BOK targets inflation of 2.5-3.5 percent and has forecast average inflation this year of 1.7 percent.
The BOK took note of a stabilisation of its financial markets due to "the easing of concerns about an earlier-than-expected tapering off of US quantitative easing," adding that long-term market interest rates have risen modestly, primarily on improved global economic indicators.
"Stock prices, after having risen due to a shift to net inflows of foreigners' stock investment funds, have fallen back somewhat recently and the Korean won has appreciated," the BOK said.
Following the launch of the Bank of Japan's new phase of monetary easing in April, the won rose over 10 percent against the Japanese yen by mid-May, raising alarm bells in Korea over the competitiveness of its exporters. The won then eased through mid-June and has risen again.
Compared with the start of the year, the won is up 5.7 percent against the yen, quoted at 11.55 per yen today.
Repeating last month's statement, the BOK also said it still expects the global economy to sustain its modest recovery, helped primarily by the U.S. economy, but the downside risks comprise changes in global financial market conditions related to the exit strategy of the Federal Reserve, a slowdown in Chinese economic growth and uncertainties surrounding the implementation of fiscal consolidation in major countries.