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보고서 1
Assessment of the Fed’s Monetary Policy and its Implications for Interest Rates in Korea [22-08]
Senior Research Fellow Baek, In Seok and others / Jun. 13, 2022
As the US has entered a rate hike cycle, there are growing concerns about the path of the Fed fund’s rate and its implications. Against this backdrop, this article analyzes the direction of US monetary policy and its risks, and explores how it would affect Korea’s financial market, especially market interest rates.

According to an analysis of US rate hike cycles since the 1970s, inflation tends to accelerate when the policy rate remains lower than the neutral rate of interest. This indicates that with the policy rate being around the neutral rate, it would be difficult to stabilize prices during the current rate hike cycle. Furthermore, even if the policy rate is pushed higher than the neutral rate, a much tighter monetary policy would be required considering the state of inflation at hand. In particular, given the late response of the Fed, unless inflation is curbed shortly by external drivers, the Fed is likely to lift interest rates well over the levels of the neutral rate. It will probably lead to the recurrence of monetary policy shocks.

If the Fed’s tightening is stronger than expected, it would transmit the shock to Korea’s financial market in the short run. The analysis has found that the Fed’s rate hike shock raises long end yields of Korea Treasury Bonds (KTBs) higher, influencing other market interest rates as well. Furthermore, it drives up the interest rates of corporate bonds and increases financing costs of banks, thereby pushing up the loan interest rate of households. 

On top of that, prolonged tightening by the Fed could trigger an inversion in short-term government bond yields as well as policy rates between Korea and US. However, given the propensity of foreign investors, the gap in interest rates between the two countries is unlikely to have a significant effect on the overall capital flows. But it is worth noting that if the Fed’s tightening is added to growing downside risks to growth, it could escalate adverse effects, which requires extra caution. 

The Fed’s tightening shock would aggravate the burden of financing on each economic player. This may require domestic policy responses, such as the purchase of KTBs and provision of liquidity, to cushion the blow. In addition, it is necessary to devise effective countermeasures by closely monitoring risks in the financial market and the possibility of such risks transmitting to the real economy.
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보고서 1
Tightening Financial Conditions and Implications for the Housing Market in Korea [22-05]
Research Fellow Jung, Whayoung / Apr. 05, 2022
In the aftermath of the Covid-19 pandemic, housing prices have soared amid a rapid increase in household debt stemming from rising housing loans. This has raised concerns about financial imbalances in the housing market. In the meantime, as central banks of major economies normalize their monetary policy due to inflationary concerns, the housing market may be affected by the change in financial conditions. Against this backdrop, this article intends to examine the impact of tightening financial conditions on the housing market and present relevant implications.  

This article analyzes the effect of changes in interest rates and household loans on housing price growth. As shown in the analysis, an increase in the base rate contributes to reducing price rises across the housing market. Since the market responds to rate hikes gradually with time, however, household loans are likely to have a bigger impact on housing prices for the short term, compared to interest rates. In an analysis of upside and downside risks to housing prices, the upside risk has increased considerably since the pandemic, driven by a steep rise in household lending and upward price dynamics. In particular, the recent realized growth rate of housing price is close to the right tail (upside risk) of its conditional distribution, suggesting signs of overheating in the market. 

Considering the growing uncertainty of the housing market, as evidenced by a surge in the upside risk to housing prices, household loans need to be actively dealt with to curb rocketing housing prices in the short-term. In the long run, Bank of Korea’s policy stance to raise interest rates is expected to put downward pressure on housing prices. Considering the ripple effects of rate hikes, gradual normalization of stricter household loan regulations would be needed in the long-term.
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보고서 1
Impacts of tightening monetary policy on stock market in Korea [22-04]
Research Fellow Jang, Bosung / Mar. 30, 2022
As inflation spreads across a wide range of sectors, it seems quite difficult to mitigate the current inflationary pressure. Accordingly, Bank of Korea is expected to respond more strongly to inflation, leading to growing interest in the impacts on the stock market. Against this backdrop, this study identifies monetary policy shocks in terms of interest rates and M2 separately, and investigates how such shocks would affect stock prices.
 
In this article, impulse responses of stock prices are estimated for aggregate indices—the KOSPI and the KOSDAQ index, and industry portfolios. The results indicate that contractionary M2 shocks, rather than interest rate shocks, tend to have more significant effects on stock prices. In particular, falls in stock prices are pronounced in the KOSPI and IT, industrial materials, raw materials and consumer discretionary sectors. Furthermore, while stock prices exhibit a strong correlation with industrial production among macroeconomic and financial indicators, industries having stronger correlations with production are more susceptible to monetary policy shocks. This implies that business cycles serve as an important channel through which monetary policy influences stock prices, whose responses could vary depending on sensitivity to business cycles.
 
One additional takeaway is that, despite the contractionary impacts, stock prices recover in a short period of time. In other words, domestic monetary policy could have a short-term effect on stock prices to some extent, but it hardly would change their trends. Therefore, a desirable approach is to pay attention to developments of the real economy and manage related risks, rather than overreacting to monetary policy. 
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보고서 1
Recent changes in US dollar funding market and its implications on Korea [21-02]
Senior Research Fellow LEE, Seungho and others / Jan. 22, 2021
The US dollar plays key role in the international financial market. Its functions as the foremost funding currency is reinforced by its use as a vehicle currency for foreign exchange transaction. Almost the half of all cross-border loans and international debt securities are denominated in US dollars, as well as over the three quarters of foreign exchange transactions occur over US dollars.
 
However, the experience of global dollar shortage during the global financial crisis(GFC) has led the changes in the US dollar funding market landscape after crisis. Non-US banks, which were the major suppliers of US dollar funding before GFC, has reduced its US dollar intermediation business, especially those from European region. Also US dollar funding is increasingly obtained through capital market as the banks conduct less US dollar intermediation. In the short-term dollar funding market, deviations from covered interest parity(CIP) persist since GFC and it is now characterized as low liquidity and higher cost market compare to pre GFC era.
 
In the case of Korea, abundant liquidity conditions in the spot foreign exchange market has been maintained until recently due to persistent current account surplus as well as the growth trend of incoming foreign portfolio investment. However, liquidity conditions of short-term dollar funding market, typically assessed by CIP deviations in the FX swap market, has been worsening since GFC. According to empirical results in this paper, recent structural changes in the global US dollar funding market  influence short-term dollar funding market conditions in Korea through reduced US dollar loans from foreign branches of global banks in Korea.

This report provides the following implications for the Korea’s foreign exchange policies. First, one should closely monitor various cause of foreign exchange market volatility beyond what were considered before the structural changes. This would include changes in the risk appetite of non-banking sector, international debt market conditions, changes of broad dollar index, among others. It is worth stress again that since it is non-banking sector that led the US dollar credit growth recently the focus of foreign exchange market stability policies should extended to those sectors that are not in the locus of macro-prudential policy.

Also it is advised that Korea should maintain its attention on the stable overseas dollar funding sources because cross-border dollar loans through global banks are still the main source of dollar funding in the Korea’s foreign exchange market. In such a respect, one should carefully monitor and analyze impact of global regulatory reform on lending activities of non-US banks, as well as shifting business models of intermediaries. The paper also implies that it would be worthwhile to overhaul the existing macro-prudential policy framework in respond to the recent changes in the US dollar funding market landscape and the measures should be carefully adopted considering recent changes in the global US dollar funding market.
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