CEIC News@lert: South Korea’s Policy Stimulus Encourages Household Borrowings

December 5, 2014 HIGHLIGHTS Starting with “Abenomics” in Japan, followed by “Modinomics” in India, now there is “Choinomics” in South Korea, coined after the finance minister Choi Kyung-hwan, in office since July 2014. Choi’s team embarked on a revitalizing package of policies which included a $39.8 billion fiscal stimulus programme. In addition to this, the Bank of Korea (BOK, the central bank) has provided complementary monetary stimulus by lowering the base rate twice during the past three months, from 2.5% to 2.25% initially, and then to 2.0%. Prior to this series of cuts which took policy interest rate to the lowest ever level in South Korea, the rate had been stationary for 15 months at 2.5% prior to August 2014. The BOK’s highest priority is inflation control. On its own, the cut in the base rate in October seems reasonable with consumer price inflation sliding below 1.2% year on year (YoY) in September 2014. However, taking a longer, horizon looking back when inflation was even lower in 2013, below 1% YoY, the central bank did not react. Although the responsibilities of the central bank are limited to maintaining price and financial stability, the recent monetary policy response seems to also reflect a desire to stimulate the economy alongside the Choinomics fiscal stimulus. Choinomics has been around for five months and yet the economy has yet to react with growth and confidence remaining low. Indicators of real economic growth, including GDP, private consumption and facilities investments are all improving but their pace has become sluggish compared to the post-2008 economic recovery. The composite business sentiment index has remained below the 100 ballpark for the past three years – signaling that companies are still pessimistic about their business (where a value below 100 implies a deteriorating economy compared to the previous period). A direct consequence of the base rate cut is the fall of deposit and lending rates. As of October 2014, the rates based on outstanding deposits and loans were 1.97% and 4.36% respectively, down by 12.8% YoY and 8.8% YoY respectively. The lending rate to households was 3.64% in October, down by 13.5% YoY while the Cost of Funds Index (COFIX) for both new and outstanding funds had fallen to its lowest level since it was launched in January 2010. Korean households seem to have welcomed the lower rates and change their behaviour accordingly. Interest rate changes affect the valuation of loans and deposits through their discounting rates. Korean household deposits have exceeded loans since August 2012, but reduced interest rates are encouraging more borrowing relative to deposits. As of September 2014, households’ loans and deposits in commercial banks saw marginal month-on-month changes, declining by 0.1% and increasing by 0.9% respectively. The mortgage borrowing portion of household debt climbed 2.3% YoY to reach 69.7% of the total, its highest in seven years. Total household debt (i.e. credit to households) has been increasing at a rate of 5% to 9% YoY during the past three years, exceeding KRW 1,060 trillion during the third quarter of 2014. Its pace has been faster than that of household income and GDP growth. Borrowing more is not essentially inappropriate as it could be a sign of a more active economy. However, in the short run, further loans issued to households may have limited effect in stimulating the economy as debt accumulation tightens individuals’ spending. Growing debt could also be a sign of the economy maturing. Developed economies in general have higher levels of household debt compared to developing economies. For example, this is the case for the UK and France compared to China and Mexico. Moreover, this is not necessarily a risk when considering household debt in the context of the growth of net financial assets (assets minus liabilities) of households. Compared to Q2 2013, the Q2 2014 net financial asset figure has grown by 8.18% to KRW 1,484 trillion. The higher level of household debt may be justified, but there are potential risks. Debts must be repaid, and the ability of households to do so has shown signs of weakening: the ratio of household debt to gross disposable income is consistently climbing. Apart from the credit risk, a related concern is the negative impact on domestic demand from rising household debt. Discuss this post and many other topics in our LinkedIn Group (you must be a LinkedIn member to participate). Request a Free Trial Subscription. Back to Blog
5th December 2014 CEIC News@lert: South Korea’s Policy Stimulus Encourages Household Borrowings

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