General Principles of Monetary Policy Operation
1. Policy Objectives
The Bank of Korea Act stipulates that the goal of monetary policy is to “contribute to the sound development of the national economy by pursuing price stability” and that the Bank of Korea (hereinafter “the Bank”) “shall pay attention to financial stability in carrying out its monetary and credit policies.” In order to enhance the transparency, predictability, and effectiveness of monetary policy, the Bank will carry out its task by setting specific targets and objectives in accordance with this goal.
2. Inflation Targeting
The Bank maintains a flexible inflation targeting system to effectively achieve price stability, which is the primary objective of monetary policy. The inflation target is currently set at 2% in terms of consumer price inflation (year-on-year).
2.1. Medium-Term Horizon
Since consumer price inflation is affected not only by monetary policy, but also by various other factors at home and abroad, the inflation target is meant to be achieved over a medium-term horizon, in consideration of price changes owing to transitory and irregular factors and of lags in monetary policy transmission.
2.2. Forward-Looking Operations
The Bank conducts its monetary policy in a forward-looking manner to ensure that inflation converges to the target level over the medium-term, while the likelihood of inflation converging to the target is assessed comprehensively by taking into account inflation and growth outlooks, as well as their uncertainties and risks, and the degree of anchoring of inflation expectations. In addition, the Bank symmetrically considers the risks of inflation remaining persistently above or below the target.
2.3. Flexible Operations
The Bank operates its inflation targeting system flexibly to support stable growth of the real economy while paying attention to financial stability to the extent that this does not hinder attaining the inflation target over the medium-term.
3. Consideration of Financial Stability
In achieving price stability over the medium-term, the Bank pays careful attention to financial stability conditions.
3.1. Efforts to Stabilize the Financial and Foreign Exchange Markets
The Bank makes efforts to stabilize the financial and foreign exchange markets and to restore the financial intermediary function, given that monetary policy transmission channels are constrained and macroeconomic stability is undermined in the event of financial instability.
3.2. Attention to Financial Imbalances
As persistent financial imbalances, such as the buildup of debt and overvaluation of asset prices, could ultimately undermine macroeconomic stability, the Bank pays due attention to ensure that monetary policy does not lead to buildup of financial imbalances.
3.3. Harmony with Macroprudential Policy
Since there are limits to maintaining financial stability solely through monetary policy, which affects the whole economy, monetary policy and macroprudential policy need to be operated in a harmonious manner to prevent buildup of financial imbalances.
4. Policy Tools and Communication
The Bank uses the Base Rate as its primary policy tool while also employing other tools such as open market operations, lending facilities, and reserve requirements. It also strives to communicate clearly and deeply to economic agents the rationale behind monetary policy decisions and its future course of operations.
