[0.5% Interest Rate Era] Financial Sector Profitability Deterioration 'Critical Alert'

[Asia Economy Reporter Jo Gang-wook] The financial sector is in a state of emergency as the Bank of Korea lowered the base interest rate to a historic low of 0.50% per annum. Not only has the net interest margin, which accounts for an absolute majority of banks' income from interest rate differences, sharply decreased, but the impact of the novel coronavirus disease (COVID-19) is also expected to increase non-performing loans due to the management difficulties faced by small and medium-sized enterprises and self-employed individuals. Furthermore, the profitability deterioration is expected to accelerate as it is difficult to increase non-interest income following last year's fallout from overseas interest rate-linked derivative-linked funds (DLF) and Lime Asset Management fund failures.

According to the financial sector on the 28th, as the Bank of Korea's Monetary Policy Committee lowered the base interest rate to 0.50% per annum, banks face the risk of losing several hundred billion won in their main source of income, the net interest margin (NIM). Typically, a 0.25 percentage point cut in the base rate results in an annual net profit decrease of 200 to 300 billion won. Accordingly, massive losses for banks have become inevitable.

The phenomenon of withdrawal from savings and deposits may also accelerate. Due to the base rate cut and government financial support measures, the average interest rates on savings and loans in the banking sector hit record lows again in April. As 0% interest rates became widespread, in April alone, 2.7 trillion won flowed out of fixed deposits at the five major banks?KB Kookmin, Shinhan, Woori, Hana, and NH Nonghyup. Additionally, the balance of fixed savings deposits at these banks decreased by nearly 1.6 trillion won over the first four months of this year. Analysts attribute this money movement to the tightening household finances due to COVID-19, reducing saving capacity, and some funds moving into the stock market.

As a result, domestic banks' net income in the first quarter of this year recorded 3.2 trillion won, a decrease of 700 billion won (17.8%) compared to the same period last year (4 trillion won). The first quarter net interest margin (NIM) also hit a historic low of 1.46%. With further base rate cuts expected, the outlook is that earnings will worsen further in the second quarter. It is an even bigger problem that finding a breakthrough in the non-interest income sector is not easy. The non-interest income of the five major commercial banks, which account for 60% of the entire banking sector, fell by 239.9 billion won (23.2%) year-on-year to 1.0359 trillion won in the first quarter, triggering an alarm.

Insurance companies have also been directly hit by the low interest rates. In particular, life insurers, who manage assets by investing the premiums paid by customers, are inevitably vulnerable to base rate cuts. The net income of all insurance companies in the first quarter has already decreased by 26% compared to the same period last year. Life insurance net income plunged 38% year-on-year to 778.2 billion won.

Not only insurance companies but also secondary financial institutions such as savings banks, the National Federation of Fisheries Cooperatives, credit unions, and Saemaeul Geumgo are increasingly concerned about the expansion of negative margins on high-interest fixed products sold in the past. Even in the savings bank sector, which had an interest rate advantage compared to commercial banks, there are forecasts that 0% interest deposits may spread.