[The Editors' Verdict] Household Debt Cannot Be Reduced by Loan Regulations Alone

If anyone’s debt grows faster than their income, they will eventually be unable to repay it. In any country, when household debt increases, consumption slows; when corporate debt rises, investment declines; and when government debt grows, both consumption and investment weaken, leading to a low-growth trap. Since the Moon Jae-in administration took office, international organizations have expressed concern over the significant increase in household, corporate, and government debt. Among these, household debt, which holds the largest share in the economy, is particularly severe. Compared to other countries, household debt exceeds that of corporations and the government, and both the quantity and quality of debt worsen especially among low-income groups. As evidenced by the fact that the household debt growth rate for the youth?who have the highest unemployment rate at around 25%?was 12.8% as of June 2021, much higher than other age groups (7.8%), the deterioration of debt has accompanied worsening employment conditions.

In South Korea, household debt has grown to a scale comparable to the total income earned by the entire population in one year, i.e., the Gross Domestic Product (GDP). The main cause of household debt is mostly real estate. When real estate prices were stable, household debt did not increase. However, over the past several years, as real estate prices soared, household debt rapidly increased, and the problem is more severe among vulnerable housing groups; for example, jeonse (long-term lease) loans for people in their 20s have increased fivefold compared to 2017. The government, belatedly recognizing the seriousness of the problem, has rolled up its sleeves to reduce household debt. The issue is how to reduce household debt. The government introduced the Debt Service Ratio (DSR) to strengthen repayment ability assessments and plans to drastically regulate household loans not only from banks but also from secondary financial institutions, cutting limits by half. Initially, they also intended to regulate jeonse loans but retreated a step due to backlash.

If household loans are uniformly reduced based solely on repayment ability, low-income groups without homes will be hit hardest. They will be unable to secure jeonse housing and will have to move into monthly rent housing, spending a large portion of their limited income on housing costs and losing the chance to save for home ownership. Moreover, as the Bank of Korea raises the base interest rate, low-income groups face larger increases in loan interest rates, making the situation worse. Strengthening loan regulations may force people to rely on high-interest private loans outside the formal financial system. As with the failure of real estate policies, it is difficult to solve the household debt problem by suppressing loans alone while leaving the root causes untouched. A comprehensive household debt policy is needed, including finance, real estate, and taxation. It is impossible to reduce household debt when rental prices soar due to housing shortages, while capital gains tax hikes make it difficult to sell homes.

No one would oppose reducing household debt. However, the government aims to reduce the total amount of household debt quickly. This focus on targets can lead to hasty decisions and numerical games. Low-income groups suffer from malignant debts that are hard to capture in statistics, and the middle class faces principal and interest repayment demands but may be unable to repay on time. Since the economy is polarized and in poor condition due to COVID-19, policies to reduce household debt are likely to exacerbate the economic downturn. The Bank of Korea and financial authorities should have raised interest rates and devised measures to reduce household debt earlier when real estate prices surged before COVID-19. If they fail to fulfill this responsibility and now wield regulatory measures as if scolding the public for having too much debt, the government itself will undermine public trust in its policies.

Reducing household debt involves pain. If the government demands that the public endure hardship, it must first lead by example in reducing its own debt. Fundamental measures to stabilize real estate prices and reduce household debt must be introduced for the government to be responsible. The upcoming presidential election should serve as an opportunity to create such a government.

Kim Taeg-gi, Professor of Economics, Dankook University