The Bank of Korea (BOK) left its benchmark interest rate unchanged at 3.25% on Friday, keeping its rate freeze stance for 10 straight months due to conflicting factors such as resurfacing downside risks to the economy and the remaining inflationary pressure.

Governor Kim Choong-soo and monetary policy board members decided to freeze the 7-day repo rate at 3.25% at the April rate-setting meeting. The BOK has lifted the borrowing costs by a total of 125 basis points (bps) in five steps since July 2010. " Despite easing uncertainties surrounding external conditions, the South Korean economy is expected to maintain its moderate trend of growth due to global economic downturn, especially in the euro area. In terms of upside and downside risks to its future growth path, the downside predominates," the BOK said in a statement.

Touching on inflation, the BOK said that consumer price inflation fell to 2.6% in March due mainly to the expansion in government subsidies for childcare fees and free school meal, but the bank noted that destabilizing factors remained such as the ongoing high inflation expectations and the geopolitical risks in the Middle East.

The decision was in line with market expectations as experts predicted the BOK not to move the rate due to concerns over re- emerging downside risks such as surging yields on Spanish sovereign bonds and slowdown in the recovery momentum of U.S. economic indicators despite lingering inflationary pressures.

RESURFACING RISKS Yields on Spanish treasuries were back on the rise recently after the Spanish government saw its debt to GDP ratio soar to 79.8% this year, the highest since 1990. Fears were reignited that the European country may not reduce its public deficit to a manageable level after it backed off from its earlier deficit-cut targets. "In Spain, public debt has been mounting rapidly. If additional sovereign bond issuance fails to attract sufficient demand due to foreign capital defection, the Spanish sovereign bond yield uptrend could further accelerate," said Peter Park, a fixed-income analyst at Woori Investment & Securities.

Spain's austerity measures promised under the new fiscal pact could lead to economic recession, which would in turn make it even harder for the country to decrease its public debt. Spain's jobless rate jumped to 23.6% in February, boosting worries that the nation's economic resilience was in trouble.

The worse-than-expected employment data in the U.S. crimped hopes that the world's largest economy may continue to create jobs. The U.S. jobless rate fell slightly to 8.2% in March, but job growth slowed to 120,000, sharply lower than the average monthly increase of 246,000 over the prior three months, and the lowest in five months. "The latest batch of job market data suggests the U.S. economy is weakening again. Private-sector job growth has likely peaked. The disappointing readings of job- related data should cloud the outlook of the U.S. economy," said Yoon Yeo-sam, a fixed-income analyst at Daewoo Securities.

INFLATIONARY PRESSURE

South Korea's consumer price growth hovered around 4% last year, but it continued to fall for the first three months of this year. Consumer prices advanced 2.6% in March from a year earlier, down from a 3.1% on-year gain in February, and slipping into the 2% range for the first time in 19 months.

However, concerns remained over the lingering inflationary pressure. Governor Kim stressed that inflation expectations remained at a high level of around 4%, saying that consumer price growth slowed in March due to the government's support for childcare fees and expansion of free school meal.

Slowdown in the March consumer price inflation was mainly ascribable to various policy measures to cut private service prices. After the government widened its financial support for childcare service, preschool tuition and outlays for using childcare facilities plunged 11% and 34% each on- month in March, while the broader free school meal program pulled down prices for school meal.

In January and February, consumer price growth slowed down on an on-year basis although the on-month figure showed upward trend, indicating that high base effect caused an optical illusion. Global oil prices rose 2.1% on-month to 123 U.S. dollars a barrel on average in March, but petroleum product prices climbed 6% on-year in March, much lower than an average price growth of 14% last year.

"Demand-side inflationary pressures are expected to strengthen from the second half of this year. This will lead to higher inflation expectations, and in turn encourage the BOK to normalize its key policy rate," said Lee Jung-joon, a fixed-income analyst at HMC Investment & Securities in Seoul.