[Financial Report] Rapid Increase in Mutual Finance Corporate Loans... Deposit Interest Rate Competition, Profitability Declines

Bank of Korea Releases Financial Stability Report
High Capital Ratios but Significant Potential for Deposit Scale Fluctuations

As the proportion of corporate loans in mutual finance has expanded, it has been found that the profitability of some sectors has declined due to increased interest expenses from rising deposit interest rates and increased loan loss costs.

The Bank of Korea pointed out in its Financial Stability Report released on the 26th that although the risk of mutual finance transmitting to the financial system is low due to high capital ratios and a deposit structure centered on face-to-face deposits, profitability may deteriorate due to deposit interest rate competition, and deposits may not be well secured, so efforts to strengthen liquidity risk management are necessary.

Corporate loan ratio 15.7% → 50.9%... Impact of strengthened household loan regulations

According to the report, the proportion of corporate loans in mutual finance expanded from 15.7% in 2017 to 50.9% at the end of the second quarter this year. Since 2017, mutual finance’s fund management has rapidly increased centered on corporate credit while household loan growth stagnated. As of the end of the second quarter this year, the balance of corporate loans was KRW 346.4 trillion, an increase of KRW 286.7 trillion since the first quarter of 2017 (KRW 59.7 trillion), whereas the balance of household loans increased by only KRW 14.6 trillion during the same period (KRW 320.2 trillion → KRW 334.8 trillion).

The Bank of Korea explained that the expansion of corporate loans in mutual finance is mainly due to "restrictions on household credit supply caused by strengthened household loan regulations, increased demand for real estate-related loans due to the previous real estate market boom, and efforts by mutual finance to secure profitability."

With the increase in the proportion of corporate loans, the influence of the corporate sector on mutual finance credit risk has increased. The report mentioned, "Since 2022, the asset quality of mutual finance has deteriorated, but in the case of household loans, the delinquency rate has risen relatively moderately, and the scale of loans to low-credit borrowers has also decreased." According to the household debt database, compared to the end of 2019, the decrease in loan amounts to low-credit borrowers as of the end of the second quarter this year was -36.4% for Nong·Su·Sanrim Johoe (Agricultural, Fishery, and Forestry Cooperatives), -36.4% for Credit Unions, and -38.6% for Saemaeul Geumgo, which is more than twice as high as banks (-16%).

Interest income shrinks due to rising deposit interest rates... Decline expected later

In terms of funding, mutual finance maintains a funding structure centered on savings deposits, but recently, deposit maturities have shortened and deposit interest rates have risen, increasing deposit sensitivity. The report explained, "The scale of interest income, which greatly expanded due to interest rate hikes and loan growth in 2022, has shrunk due to increased interest expenses from rising deposit interest rates and the added impact of increased loan loss costs, resulting in a decline in profitability in some mutual finance sectors recently."

Interest expenses may decrease later with a decline in deposit interest rates. The report noted, "Considering the sharp increase in deposits with maturities of 6 months to 1 year during the first quarter of 2023, when deposit interest rates were still high, profitability may worsen for the time being due to interest expenses," but also pointed out, "Deposit interest rates have been declining since the fourth quarter of 2022, so a decrease in interest expenses is expected in the future."

According to the report, the net capital ratio (capital/total assets) of mutual finance was stably maintained at 5.1?10.2% by sector as of the end of the second quarter this year, significantly exceeding regulatory ratios. Only Suhyup (5.1%) and Credit Unions (6.4%) have lower capital ratios compared to other sectors. Considering the capital ratios exceeding regulatory requirements and the deposit structure centered on face-to-face deposits, the possibility of mutual finance risks transmitting to the financial system is limited.

However, the Bank of Korea emphasized, "As deposit maturities have recently shortened and volatility in deposit scale may increase due to concerns about soundness, efforts to strengthen soundness and liquidity risk management must be enhanced."