The Bank of Korea has the exclusive right to issue banknotes and coins within Korea. Their dimensions, designs and denominations are determined by the Monetary Policy Board upon the Government’s approval. The banknotes and coins issued thus have the status of legal tender within the country for all transactions, both public and private, without limitation.

1. Note : ¹⁾ Period-end basis
2. ²⁾ Includes commemorative coins

The most important mission of the Bank of Korea is its formulation and implementation of monetary policy. This involves controlling the supply and the cost of money so that the economy may grow in a sound manner on the basis of price stability. To this end, the Bank conducts its monetary policy with an emphasis on price stability, while also taking into account such matters as economic growth and financial system stability.

The Bank introduced an inflation targeting regime in 1998, changing the operational framework for its monetary policy from a monetary aggregate-oriented to an interest rate-oriented one in which the call rate (the uncollateralized overnight rate) constituted its policy rate and operating target. The Bank then reformed and realigned its monetary policy framework again in March 2008—through measures including a change in the policy rate from the call rate target to the Bank of Korea Base Rate, improvement of the reserve requirement system, the regularization of open market operations, and the introduction of standing facilities.

Inflation targeting can be explained in detail by breaking it down into its three main elements: the target measure, the target level and the target horizon. The 12-month rate of change in the Consumer Price Index (CPI) currently serves as the target measure in Korea. The present target over a target horizon of three years(2016 to 2018) is 2 percent. The setting of a medium term target is done in view of the considerable time lag before monetary policy works through to prices. The Bank determines the inflation target in consultation with the government.It publishesits monetary policy report four times a year to explain how it is implementing the inflation target policy.

To achieve its ultimate goal of maintaining price stability, the Monetary Policy Board of the Bank sets the Base Rate eight times per year, in overall consideration of price movements, economic activity and financial market conditions. The Bank then attempts to steer the call rate so that it converges with the newly-set Base Rate level, using its policy instruments. Any change in the call rate affects market interest rates such as yields on CDs and Treasury bonds and bank deposit and lending rates. These changes in interest rates tend to influence consumption and investment and, as a result, inflation.

The Bank conducts its monetary policy mainly through open market operations. Its lending and deposit facilities and reserve requirements are additional monetary policy instruments available to the Bank.

Trend of Bank of Korea Base Rate ¹⁾

1. Note : ¹⁾ Overnight call rate target until February 2008.

Open Market Operations

The Bank of Korea carries out open market operations as and when necessary to affect the level of reserves in the banking system and to steer the overnight call rate toward the ‘Base Rate’. Open market operations are conducted in three ways—: through the issuance and repurchase of Monetary Stabilization Bonds (MSBs), through securities transactions, and through commercial banks’ deposits made in the Monetary Stabilization Account (MSA).

MSBs, which are issued by the Bank, originated as a major tool of monetary policy during the period when the volume of government and government guaranteed bonds remained insufficient. As MSBs have relatively long maturities, they are now used for the structural adjustment of market liquidity. By maturity, there are 13 types of MSBs varying from 14-day MSBs to 2-year MSBs. Currently, however, only 91-day, 182-day, 1-year, and 2-year MSBs are issued regularly through competitive bidding. The Monetary PolicyCommittee sets a ceiling on MSB issuance every three months, in consideration of market liquidity conditions.

Securities transactions involve purchases and sales in the secondary market of government bonds, government-guaranteed bonds, and securities as specified by the Monetary PolicyCommittee. Securities transactions take the forms of outright transactions or of repurchase agreements (RPs). Transactions in RPshave beenoffered regularly on a weekly basis—mostly with seven-day maturities since March 2008.

The Monetary Stabilization Account (MSA), a market-friendly term deposit facility with competitive bidding was utilized sinceOctober 2010. The longest maturity of deposits with the account is 91 days, but the Bank largely accepts deposits to the MSA with a less than 1 month maturity.

In 2016, the average balance of MSBs outstanding was 179.4 trillion won. During the same period, the average balance of outstanding RP (net)sales and MSA stood at 13.8 trillion won and 11.8 trillion wonrespectively.

1. Note : ¹⁾ Annual average basis

Lending and Deposit Facilities

The Bank of Korea operates lending and deposit facilities to control the availability of banking institutions’ funds. Its lending and deposit facilities consist of Bank Intermediated Lending Support Facility, Liquidity Adjustment Loans and Deposits, Intraday Overdrafts and Special Loans.

TheBank Intermediated Lending Support Facility System was introduced in 1994, to replace the former policy financing arrangements. Under this system, the Monetary Policy Board sets a capon the maximum amount ofBank Intermediated Lending Support Facility to be extended by the Bank to domestic banks.Individual Facility(Program) quotas are then allocated to each bank in accordance with criteria such as its performances in the extension of Trade Financing, Loans to start-up SMEs with creative technology, and any other fund operating performance as stipulated by the Bank of Korea Governor.

All reserve depository institutions can access Liquidity Adjustment Loans and Deposits, a kind of standing facility offered by the Bank, without restriction on either the frequency or the scale of their use. This facility serves the function of limiting the volatility of the call rate within a certain range. The loan and deposit interest rates are set at 100 basis points above and below the Base Rate, respectively.

Intraday Overdrafts are provided to banks experiencing temporary shortages of settlement funds in the course of a single day. As the lender of last resort, finally, the Bank can also extend Special Loans when necessary to ensure financial market stability. In March 2009, for example, the Bank provided a 3.3 trillion won Special Loan to the Korea Development Bank^※, to support the ‘Bank Recapitalization Fund’. As of the end September 2014, the Bank’s total Bank Intermediated Lending Support Facility and Special Loans outstanding amounted to 18.5 trillion won.

1. Note : ^※ With the establishment of the Korea Finance Corporation (KoFC) through a spin-off from the Korea Development Bank(KDB), the Special Loan counterparty was changed from the KDB to the KoFC.

Reserve Requirements Policy

The Bank of Korea may impose reserve requirements on the deposits and other liabilities2) of banking institutions. This system was originally introduced for the protection of depositors, but is used nowadays to control the funds available to banks through reserve requirement ratio adjustment. This can be a useful instrument for maintaining financial stability, as it can reduce the pro-cyclicality of bank lending by smoothing out the amount of funds available for lending.

Required reserves should typically be held in the form of deposits with the Bank of Korea, but may also be in part held by banks in the form of vault cash to a level (currently 35%) determined by the Monetary Policy Board. Banks’ reserves against deposit liabilities held in the Bank of Korea may be used for the settlement of interbank accounts. Should an institution’s reserves fall short of its legal reserve requirements, which are computed monthly, it must pay the Bank a penalty of two percent of the amount of the average deficiency during the period concerned.

The reserve requirement ratios were reduced greatly between 1996 and 1997, but were then readjusted upward by the Bank in December 2006 to improve the effectiveness of monetary policy by restraining a sharp increase in bank credit.

Reserve Requirement Ratios (As of the end ofDecember 2014)

1. Note : ¹⁾ Long-term Housing Savings Deposits, Workers’ Preferential Savings Deposits, Long-term Savings Deposits for Households, Workers’ Property Formation Savings Deposits, Workers’ Long-term Savings Deposits, and Workers’ Housing Loan Savings Deposits.

Trends of Reserve Requirement Ratios

The Bank of Korea also has a mandate for maintaining and enhancing financial system stability. To achieve this, the Bank conducts comprehensive monitoring of economic conditions domestically and abroad, of financial market stability, and of the soundness of the financial system. It also develops and makes full use of a wide range of indicators to detect, assess and provide early warning of various risks present in the financial system in a timely fashion. Based upon this, the Bank prepares and releases a half-yearly Financial Stability Report, analyzing potential risks in the financial system and their effects while providing a comprehensive assessment of the system as a whole.

Since the sound management of financial institutions is vital for proper functioning of the financial system, the Bank makes constant use of information from financial institutions, to monitor their business operations and financial conditions, and as necessary conducts on-site examinations of them jointly with the Financial Supervisory Service to determine their soundness. The focus of these examinations is on the facilitation of macroprudential policy, for example, detecting and responding in advance to systemic risks that can threaten the financial system as a whole, as well as on monitoring the soundness of individual financial institutions.

The Bank of Korea accepts deposits from and makes loans to banks and other financial institutions, thus serving as the “banker to banks”.

It maintains current accounts for banking institutions, and the reserves kept by institutions in these accounts are used to clear checks and to settle interbank accounts, including those arising from use of BOK-Wire+, the Bank of Korea’s hybrid system for settlement of large-value interbank fund transfers.

The Bank conducts credit operations with banks by rediscounting commercial bills or by extending them loans against eligible collateral with maturities of up to one year.

As the lender of last resort, the Bank can also extend loans to banks facing difficulties in raising funds in the financial markets, particularly when no other lenders stand ready in times for example of financial crisis.

Treasury Services for the Government

The Bank handles the receipt of national revenues and disbursement of national expenditures as the depositary of the Government. The Bank also maintains the Government’s current deposit account, which taxes and all other government revenues are concentrated. Also, the Bank may extend loans to the Government.

For the convenience of tax payers, the Bank designated about 17,000 branches of financial institutions in Korea as Treasury agencies, and they actually receive the majority of Treasury funds along with postal office. Meanwhile, Treasury fund payments are made via real-time electronic transfers of Treasury funds to creditor’s accounts through an electronic system which connects the networks among the Bank, the Government, and financial institutions.

As well as the depositary tasks, the Bank performs tasks related to the issuance and redemption of government securities. Additionally the Bank accepts custody of securities and other valuable objects belonging to the Government.

Economic agents such as households and corporations can pay for their purchases of goods and services directly with cash or by using financial institutions. The payments via financial institutions and financial transactions among financial institutions lead to the assumption by these institutions of settlement obligations toward each other. The Bank of Korea, as the “banker to banks”, provides financial institutions with current accounts, and financial institutions use these accounts with the Bank to settle their mutual obligations.

To ensure smooth fund settlement among financial institutions, the Bank operates BOK-Wire+, the sole large value payment system in Korea. It also works to facilitate smooth fund settlement by providing intraday overdrafts to financial institutions temporarily short of settlement funds.

Meanwhile, to ensure safety and efficiency of the nation’s payment and settlement system as a whole, the Bank also oversees the various individual systems—monitoring and assessing them, and recommending any necessary improvements to the system operators.

Foreign exchange reserves are defined by the IMF as “those external assets that are readily available to and controlled by monetary authorities for direct financing of payments imbalances, for indirectly regulating the magnitudes of such imbalances through intervention in exchange markets to affect the currency exchange rate, and/or for other purposes”. Types of reserve assets include foreign exchange assets (consisting of foreign currency deposits and securities), gold, special drawing rights (SDRs), and other claims.

The Bank of Korea holds and manages the nation’s foreign reserves appropriately to ensure that they can serve as a safeguard in cases of emergency. It invests the reserves mainly in safe and liquid foreign assets, and strives to improve their profitability insofar as this does not detract from their safety.

The Bank also makes efforts to stabilize the FX market, in consultation with the Government. While it allows the exchange rate to be freely determined by economic fundamentals, as well as the supply of and demand for foreign exchange in the market, the Bank can implement smoothing operations if needed, to calm disorder in the market and mitigate any rapid short-term changes in exchange rates.

The Bank in addition acts as an agent for the Government in managing the Foreign Exchange Stabilization Fund, which was founded in 1967 with the objective of stabilizing the foreign exchange market.

The Bank represents the Government in all dealings and transactions with international financial institutions of which the Republic of Korea is a member.

Holdings of foreign reserves

The Bank of Korea collects and compiles statistics, and conducts economic research.

It compiles statistics essential to the development of appropriate economic policies across all sectors including the government. These include the money and banking statistics, national income statistics, producer price index, balance of payments statistics, flow of funds statistics, and input-output tables.

The Bank in addition carries out research on national and worldwide economic developments, to assist it in formulating effective monetary policy and in advising the Government on various economic policy options.

It also publishes various periodicals, such as its Annual Report and Monthly and Quarterly Bulletins, to provide the public with accurate and up-to-date information on the economy.

Statistical Series Compiled by the Bank of Korea

The Bank of Korea engages in close cooperation and exchanges with central banks from around the world, as well as with international financial institutions.

It maintains close ties with central banks of major countries including the US, Japan and China, in an effort to help it respond effectively to changes in the global economic and financial climate. The Bank has also joined organizations for cooperation among central banks such as the BIS, EMEAP and SEACEN, which enable it to play a leading role in discussions on pending issues with other member central banks. It also hosts international seminars and workshops, to share with others Korea’s experiences in achieving successful economic development and overcoming financial crises.

In addition, the Bank participates enthusiastically in the major activities of international financial groups including the G-20, and of the international financial institutions Korea has joined such as the IMF and the World Bank Group, in order to ensure better reflection of the country’s national interests in the decisions of these fora.

The Bank of Korea undertakes diverse activities to boost public awareness about the Bank and the Korean economy.

It conducts economic education activities for youths, headed up by its ‘Economic Lectures for Schools’ programs. It holds economic lectures upon request for universities, the military and police services, and non-government organizations as well. It also conducts a weekly ‘BOK Friday Class’ program for the general public. In addition, to promote greater understanding of its role in formulating and implementing monetary policy, it holds an annual ‘Monetary Policy Challenge’ for college students.

The Bank at the same time publishes a variety of educational materials. In 2005 it published four versions (for primary, middle and high school students, and for the general public) of the「 BOK’s Easy Economic Story」, a standard set of economic education materials. It has also put out comic books covering basic economic concepts annually since 2005.

Moreover, the Bank has since September 2006 operated a special website providing online economic education. The website is composed of three sub-sites—for children, youths and adults. It contains articles on the economy and finance, elearning programs, flash animations, games and quizzes, audiovisual materials, etc.

The Bank in addition operates the「 Bank of Korea Museum」, which consists of 13 exhibition halls designed under individual themes including ‘About the Bank of Korea’, ‘Life of Currency’ and ‘Money & the National Economy’. The museum displays samples of various Korean and foreign currencies from ancient times to the present day, and helps visitors to more readily understand the history and roles of the central bank, money and the national economy.