'Impact of demand-driven price pressures on core inflation'
Core inflation seen rising 0.1–0.4 percentage points per 1-point GDP gap expansion
GDI expansion shock could add up to 0.2 percentage points to core inflation
BOK governor: 'Core inflation is the most important indicator for monetary policy decisions'
![A menu board displaying food prices at a restaurant inside a Seoul hypermarket. [Yonhap]](https://wimg.heraldcorp.com/news/cms/2026/08/29/news-p.v1.20260829.5ebbcafdbf11452099355802eca1918e_P1.png)
"We will carefully assess whether and when to raise rates further, while continuously monitoring incoming data — particularly whether the downward trend in core inflation is sustained."
Bank of Korea Governor Shin Hyun-song, at a press conference following the benchmark interest rate hike on Aug. 27
The Bank of Korea raised its benchmark interest rate from 2.75 percent to 3.00 percent, marking its first back-to-back hike in three years and seven months, with attention now focused on whether further increases lie ahead.
The latest hike has drawn praise as a preemptive move against high inflation, and the trajectory of price growth is expected to serve as the key gauge for whether the BOK will tighten again.
A BOK research report released Sunday adds to that concern, warning that domestic core inflation could sustain elevated gains as demand pressures driven by the semiconductor sector gradually build. The report argues that a sharp improvement in the terms of trade — fueled by the semiconductor boom — could entrench rising household purchasing power as an upward force on core inflation.
Jeong Won-seok, a deputy director at the BOK's Research Department price trends team, and colleagues published the report Sunday, titled "Impact of Demand-Driven Price Pressures on Core Inflation." It analyzed four periods since 2000 in which both demand pressure and core inflation were simultaneously elevated — what the report calls "demand-driven high core inflation phases."
Those four periods were: the run-up to the credit card crisis (the first through fourth quarters of 2002), the period just before the global financial crisis (the second quarter of 2007 through the third quarter of 2008), the financial crisis recovery (the second through fourth quarters of 2011), and the post-pandemic recovery (the first quarter of 2022 through the first quarter of 2024).
During these demand-driven high core inflation phases, the report identified four common characteristics: household spending capacity expanded and consumption strengthened; rising demand-side pressure led businesses to pass cost increases on to prices; prices across individual items rose in tandem, reflecting stronger co-movement; and personal services led the rise in core inflation in the post-pandemic period.
The report also estimated the magnitude of demand-driven price pressures on core inflation. During periods of strong demand, a 1-percentage-point expansion in the GDP gap rate pushed up the cyclically sensitive price index by 0.42 percentage points — roughly four times the 0.11-percentage-point effect estimated across the full sample period.
Taking into account the contribution of cyclically sensitive prices to overall core inflation — estimated at 60 to 90 percent — the report calculated that a 1-percentage-point widening of the GDP gap translates into a 0.2 to 0.4 percentage point increase in core inflation. Combined with a direct estimate of 0.1 percentage point based on overall core inflation, the report put the total impact at a minimum of 0.1 percentage point and a maximum of 0.4 percentage point.
The GDP gap rate measures the difference between actual GDP and potential GDP as a share of potential GDP, and is used to gauge the degree of overheating or contraction in an economy. A positive reading signals an overheated economy, while a negative reading indicates a slowdown.
Dynamic analysis yielded similar results. When the same demand shock occurred, core inflation rose by as much as 0.6 percentage points six quarters later during periods of strong demand, compared with just 0.2 percentage points three quarters later during weak-demand periods. The finding suggests that price shocks are both larger and more persistent when demand is strong.
On top of that, the report noted that an improvement in the terms of trade driven by the semiconductor boom is providing additional upward pressure on core inflation. When export prices rise and real gross domestic income grows faster than GDP, the real purchasing power of households and businesses expands. The report estimated that if the demand shock from GDI expansion feeds through to higher consumption, it could add a further 0.05 to 0.2 percentage points of upward pressure on core inflation. However, it cautioned that if the additional income flows into savings or asset acquisition rather than consumption, the actual pass-through to prices could be limited.
"Domestic core inflation is likely to sustain elevated gains as demand pressures gradually build," the report said. "It is necessary to closely monitor the pace and intensity at which income gains from improved terms of trade feed into domestic consumption — not just the pace of economic recovery — and to remain vigilant against a broad-based entrenchment of rising core inflation."
The BOK is therefore expected to keep a close watch on core inflation trends as its top priority in deciding whether to raise rates further. Governor Shin said at the earlier press conference that "the most important indicator for assessing the underlying trend of inflation and determining the direction of monetary policy is core inflation."
kimstar@heraldcorp.com
