Reference Rates and Monetary Policy Effectiveness in Korea

This paper empirically examines the role of the reference rates for effective monetary policy in Korea. Desirable reference rates should have strong interconnectedness with macroeconomic variables, and be robust so that their actual paths do not deviate largely from expectations. We first compare some widely used reference rates in Korea using an impulse response analysis based upon Factor Augmented Vector Autoregression. We find that the KORIBOR delivers the largest responses to macroeconomic variables, while the differences in responses among the reference rates are moderate. To compare the robustness of the reference rates, we compute their impulse responses at multiple conditional quantile levels and examine the probability of the actual responses differing greatly from market expectations. We also find that the probability increases after an expansionary monetary policy shock, and that the KORIBOR shows relatively small increase. This implies the advantage of the KORIBOR in terms of the robustness. The bank debenture rate is shown to be most vulnerable to such a shock. Negative output and inflation shocks also give rise to increased instability due to economic downturns, and the relative performances of the reference rates are analogous to those during a case of monetary policy shock.