Bank of Korea unexpectedly holds rate steady as political turmoil, won weigh

By Cynthia Kim and Jihoon Lee

SEOUL (Reuters) -South Korea's central bank unexpectedly left its policy interest rate unchanged on Thursday and signalled it needs to wait for the domestic political turmoil weighing on the currency to stabilise before it can make further rate cuts.

Bank of Korea Governor Rhee Chang-yong said the rate decision reflected a need to support the won "which in part has been weakening due to political reasons" as it hit a 15-year low versus the dollar in recent weeks.

"We will be able to make a more independent decision from U.S. monetary policies to cut policy rates once (domestic) political conflicts stabilise somewhat," Rhee said at a news conference after the policy review and decision to keep its benchmark interest rate unchanged at 3.00%.

Only seven of 34 economists polled by Reuters had forecast no change in the rate level, while the remaining 27 had expected a third consecutive 25 basis-point cut, which would have been the first time for three straight cuts since 2009.

The decision is the first since impeached President Yoon Suk Yeol's attempt to impose martial law in early December threw Asia's fourth-largest economy into its biggest political crisis in decades. The turmoil prompted the government to cut its 2025 economic growth forecast to 1.8% from 2.2%.

The crash of Jeju Air flight 7C2216, which killed 179 people in the country's deadliest air disaster, has also weighed on the economy.

The won's slide is a major concern for policymakers. In the final three months of 2024, the currency weakened 10.6% against the dollar, its biggest quarterly drop since the third quarter of 2008.

Six of the bank's seven board members said the Bank of Korea should be open to rate cuts in the next three months, Governor Rhee said.

The BOK in November unexpectedly cut borrowing costs by 25 basis points in a back-to-back rate reduction, citing concerns over the trade policies of U.S. President-elect Donald Trump, who takes office on Jan. 20.

Local currency dealers said South Korea had relied on official smoothing operations in the onshore dollar-won market and the National Pension Service's currency hedging operations to support the won.

South Korea's policy sensitive 3-year treasury bond futures sharply trimmed earlier gains after the rate decision. The won initially gained against the dollar, but then pulled back.

In a statement released shortly after its policy decision, the central bank said it expected 2025 economic growth to be slower than the 1.9% it had projected earlier due to weaker exports and deteriorating consumer sentiment.

"Elevated exchange rates could potentially exert upward pressure (on consumer prices), and uncertainties have increased related to global oil prices as well as economic growth at home and abroad," it also said in the statement.

Economists see the central bank eyeing a more gradual pace of interest rate reductions in the year ahead.

"It seems the Bank of Korea was also pressured to hold rates today by news headlines of 'three consecutive rate cuts'. Its policy stance of monetary easing remains intact, and market reaction still seems to indicate a rate cut next month," said Daishin Securities economist Kong Dong-rak.

Median forecasts in the Reuters poll ahead of the rate decision pointed to one interest rate cut of 25 basis points this quarter and cuts of the same degree in both the second and third quarters taking the rate to 2.25%.

(Reporting by Cynthia Kim and Jihoon Lee; Editing by Christopher Cushing and Neil Fullick)