"Spending All Salary on Debt Repayment... House Prices May Fall" [Geuman Report]

Impact on Vulnerable Borrowers and Self-Employed Likely to Worsen During Interest Rate Hikes
Household Loan Delinquency Scale Expands from 5 Trillion to 9 Trillion Won
Self-Employed Loans Reach 887.5 Trillion Won, Up 14% from a Year Ago

[Asia Economy Reporter Jang Sehee] The Bank of Korea warned that excessive debt levels could cause significant shocks to the real economy. As the Bank of Korea proceeds with interest rate normalization, it predicted that the burden of principal and interest repayments will increase, leading to reduced consumption and potential adjustments in housing prices.

◆Reducing consumption to repay debt = According to the 'December 2021 Financial Stability Report' released by the Bank of Korea on the 23rd, the consumption constraint threshold for household debt was found to be a Debt Service Ratio (DSR) of 45.9%, exceeding the average DSR of 36.1% as of the end of March 2021. In particular, if the household DSR rises by 8 percentage points, the proportion of households exceeding the threshold among low-income and youth groups is estimated to increase to 27.7% and 19.7%, respectively.

The Bank of Korea explained, "So far, the overall debt repayment burden on households has not reached a level that restricts consumption," but added, "However, if the household DSR rises sharply, consumption among low-income and youth groups is relatively more likely to be constrained." In other words, as the amount of money needed to repay debt grows, consumption naturally decreases.

Following consumption constraints, the default rate and scale of non-performing household loans are also expected to increase. If financial instability is compounded by economic downturn shocks, the household loan default rate is projected to rise from 0.83% to 1.18%, and the scale of non-performing loans is expected to grow from 5.4 trillion won to 9.6 trillion won.

The Bank of Korea also foresaw a possible adjustment in housing prices. It analyzed that if real income significantly decreases and real assets are sold, housing prices could fall. Considering that the proportion of real asset holdings is very high at 64%, and that the number of high-risk households surpassed 400,000 at the end of last year, the future shock could be even greater. In fact, as of the end of September 2021, housing finance stood at 1,667.1 trillion won, accounting for 82.5% of nominal GDP, a significant increase compared to 72.8% at the end of 2019.

The Bank of Korea added, "As financial imbalances are intensifying due to the concentration of funds in the asset market, efforts to mitigate the inflow of household debt into the asset market are important," and emphasized, "Efforts to curb the increase in household debt need to be consistently pursued."

On the 22nd, when the National Tax Service began sending comprehensive real estate tax notices, apartments in Seongsu and Gangnam areas were viewed from the observatory of 63 Square in Yeouido, Seoul. Photo by Jinhyung Kang aymsdream@

◆Small and medium enterprises, self-employed, and vulnerable borrowers all at risk = The average default risk for small and medium enterprises (SMEs) was 2.8% in the second quarter of this year, higher than that of large corporations at 1.0%. By industry, the default risk in the service sector was 2.71%, higher than manufacturing at 1.58% and other sectors. The Bank of Korea stressed, "The corporate sector's default risk has somewhat increased, especially among SMEs and the service industry," and added, "We must continue to pay close attention to potential risk factors that could increase default risk, such as rising raw material prices and ongoing global supply bottlenecks."

While the income of self-employed individuals has not increased significantly, their debt is rising sharply. As of the end of September, loans to the self-employed amounted to 887.5 trillion won, a 14.2% increase compared to the same period last year. Considering the low closure rate of 11.8% last year, this suggests many 'subsistence self-employed' who maintain their livelihoods by borrowing without closing their businesses. In particular, it is estimated that the DSR of self-employed individuals would rise by 2.2 percentage points if support measures end compared to if they continue.

Alongside this, the Bank of Korea warned of a possible rise in delinquency rates centered on over-indebted and vulnerable borrowers. Borrowers who simultaneously experienced income reduction, increased non-bank loans, and higher interest burdens during delinquency rate increases recorded a delinquency rate rise of 2.1 percentage points, higher than the 0.7 percentage points during delinquency rate decreases.

The Bank of Korea stated, "If loan interest rates rise further due to inflationary pressures and household loan regulations, we must closely prepare for a situation where delinquency risks increase, especially among vulnerable households."

Professor Andonghyun of Seoul National University's Department of Economics also advised, "Not only low-income groups but also the self-employed, who were directly hit by COVID-19, and even the middle class could be affected," and recommended, "It is desirable to address this through policies such as personal bankruptcy applications and minimum living expense support."