BIS Says Korea's Private Debt Risk Is Highest... But the 'Quality of Debt' Is Okay (Comprehensive)

BIS Estimates 'Credit Gap' at 16.9%P... Highest Ever

Private Debt Growth Relative to GDP Faster Than During the Asian Financial Crisis and Global Financial Crisis

Household and Corporate Debt Increasing Faster Than in the US and China

[Asia Economy Reporter Kim Eunbyeol] Since the COVID-19 pandemic, corporate and household debt have surged sharply, pushing South Korea's private debt risk level to an all-time high. The speed at which private debt has increased relative to economic size has outpaced that seen during the Asian Financial Crisis and the Global Financial Crisis. Although consumption and production declined due to the COVID-19 shock, shrinking the economy, asset prices such as stocks and real estate soared, leading many to borrow for investment.

According to the Bank for International Settlements (BIS) as of the end of Q3 last year, South Korea's credit-to-GDP gap stood at 16.9 percentage points (P), up 3.1%P from the previous quarter (13.8%P). In Q2 last year, it surpassed 10%P for the first time in over a decade since the financial crisis, and this time it surged to the highest level ever recorded.

The credit gap is a debt risk assessment indicator that shows how much the ratio of private credit (household and corporate debt) to nominal gross domestic product (GDP) deviates from its long-term trend. The faster the ratio of household and corporate debt to GDP increases compared to the past, the larger the gap becomes. Generally, a credit gap below 2%P is considered normal, between 2%P and 10%P is cautionary, and above 10%P is classified as a warning stage. According to the Bank of Korea, as of the end of Q3 last year, household debt was approximately KRW 1,682 trillion, and corporate debt was KRW 1,332 trillion. Last year, household debt exceeded GDP for the first time, and combined private debt including corporate debt far exceeded twice the GDP.

South Korea's private debt growth rate ranks eighth among the 44 countries surveyed by BIS, indicating a rapid increase compared to other countries. It is higher than China (10.7%P), Brazil (6.6%P), Argentina (6.6%P), Mexico (5.4%P), and the United States (4.9%P). Compared to Q4 2019 before the COVID-19 outbreak, South Korea's increase exceeded 10%P, larger than Brazil (3.7%P), Argentina (4.4%P), and Thailand (9.3%P). Notably, unlike South Korea, countries such as China, Mexico, and Argentina have seen their credit gaps decrease recently, showing signs of recovery.

South Korea's Credit Gap in Q3 2020 at 16.9%P... Highest Ever (Source: BIS)

Despite the growing debt burden in South Korea, the views of domestic financial authorities differ somewhat. While debt has increased rapidly, they do not consider the 'quality' of the debt to be poor. This is supported by indicators such as the household debt delinquency rate (bank household loan delinquency rate at 0.22%) and the capital adequacy ratio (16.02%), which measures the resilience of financial institutions to defaults, both of which far exceed recommended levels.

Household loans in South Korea have a high proportion of mortgage loans, and even in the worst case, collateral exists. Additionally, due to cultural characteristics, it is rare for Koreans to default on principal and interest payments to the extent of losing their homes, which is another reason financial authorities view the situation positively. The Bank of Korea's own estimate of the credit gap, reflecting South Korea's specific circumstances, is reportedly better than the BIS assessment. However, caution is advised as rising loan interest rates during the economic normalization process could sharply increase corporate interest burdens.

◇Terminology Explanation

◆Credit Gap (Credit-to-GDP gap) = A debt risk assessment indicator published by the Bank for International Settlements (BIS). It shows how much the ratio of household and corporate debt to nominal gross domestic product (GDP) deviates from its long-term trend. A figure below 2%P is considered 'normal,' between 2%P and 10%P is 'caution,' and above 10%P is classified as a 'warning' stage.