[Geuman Report] Bank of Korea "Concerns Over Expansion of Real Estate PF Defaults, Restructuring of Distressed Projects Needed"

Bank of Korea Financial Stability Report: Rising Delinquency Rates in Real Estate PF Loans
Potential Risks Slightly Increase for Securities Firms, Credit Card Companies, and Savings Banks
Continued Restructuring Needed for PF Projects at Risk of Default

Concerns over the deterioration of real estate project financing (PF) are expanding mainly among some financial institutions such as securities firms, specialized credit finance companies (credit finance companies), and savings banks. There is a warning that if the real estate market recovery is delayed, the deterioration of PF projects could also impact the real economy, necessitating continuous restructuring efforts.

According to the Financial Stability Report released by the Bank of Korea on the 28th, the delinquency rate on real estate PF loans by financial institutions has been steadily rising recently. By industry, the delinquency rate on PF loans by securities firms surged from around 3.7% in 2021 to 13.7% at the end of last year. The delinquency rate for savings banks jumped sharply from 2.1% in 2022 to 6.9% at the end of last year. During the same period, credit finance companies also saw an increase from 2.2% to 4.7%.

Looking at the entire financial sector, including banks, insurance, and mutual finance, the delinquency rate on PF loans rose significantly from 1.2% in 2022 to 2.7% last year. In terms of PF delinquency amounts relative to capital, savings banks had the highest at 4.5%, followed by credit finance companies at 2.4%, mutual finance at 2.2%, and securities firms at 1.7%.

The rise in delinquency rates on real estate PF loans by financial institutions is closely linked to the deterioration of the real estate market. With high global interest rates persisting, the domestic real estate market has been stagnant for several years. According to statistics from the Ministry of Land, Infrastructure and Transport, unsold houses nationwide reached 63,755 units in January. The prolonged high interest rates and increasing unsold inventory have led to many developers being unable to properly repay their real estate PF loans.

PF Loan Deterioration Poses Low Threat to Financial System

The Bank of Korea views the risk of PF loan deterioration threatening the overall financial system as low. After conducting stress tests on all PF projects, the Bank stated that even assuming defaults in high-risk PF projects and the resulting estimated losses being reflected in financial institutions, the average capital adequacy ratios across all sectors still exceeded regulatory requirements.

Furthermore, even if liquidity problems arise in construction companies due to defaults in high-risk PF projects, causing other PF projects managed by those companies to deteriorate, the average capital adequacy ratios by sector are still analyzed to remain above regulatory thresholds.

The generally stable short-term financial market since the workout application by Taeyoung Construction in December last year was also positively evaluated. Despite the restructuring issues surrounding Taeyoung Construction, major short-term market interest rates declined, supported by favorable supply and demand conditions such as inflows into money market funds (MMFs) and the resumption of fund disbursements by institutions.

A Bank of Korea official said, "Even assuming an exceptional scenario where latent risks in real estate PF projects materialize and spread through vulnerable construction companies, the impact on the capital adequacy of financial sectors is manageable. This is because regulatory supervision limits excessive expansion of PF exposure and financial institutions have actively accumulated loan loss provisions."

Concerns Over Transmission of PF Project Deterioration to Real Economy

However, the Bank of Korea warned that if the recovery of the real estate market and construction industry is delayed, deterioration in PF projects could also affect the real economy. In particular, if some construction companies with excessive PF debt guarantees enter restructuring due to worsening liquidity conditions, negative impacts on the real economy could occur. During the past savings bank PF crisis, construction investment declined for three consecutive years as PF project deterioration and restructuring of multiple construction companies occurred simultaneously.

In fact, as of the third quarter of last year, the asset soundness of domestic listed construction companies, such as interest coverage ratios and current ratios, deteriorated, and contingent liabilities including PF debt guarantees continued to increase. If these contingent liabilities materialize due to PF project deterioration, some construction companies with large guarantee amounts relative to their equity may see rising debt ratios and weakened financial soundness.

Accordingly, the Bank of Korea argued that financial institutions should work with stakeholders to induce an orderly resolution of real estate PF projects and secure the capacity to absorb losses to respond to latent risks.

A Bank of Korea official emphasized, "While continuing liquidity support for normal projects to ensure an orderly resolution of real estate PF, it is necessary to persistently promote restructuring for projects with default concerns." He added, "The current strengthening of loan loss provision standards for PF loans by supervisory authorities will positively contribute to early loss recognition of deteriorated PF projects and prevent delays in resolution, thereby promoting restructuring."