[Inside Chodong] A Welcome but Overdue 100 Million Won Deposit Protection Limit

Deposit Protection Limit to Double from 50 Million to 100 Million Won Starting September 1
Stronger Asset Safeguards Expected, Inconvenience of Splitting Deposits to Be Resolved

Changhwan Lee, Deputy Head of Economic and Financial Department

The Depositor Protection Act, which ensures that the government safeguards a certain portion of the money entrusted to financial institutions even if they fail, was introduced in South Korea in the mid-1990s. Prior to the 1990s, the idea of a bank collapsing was almost unimaginable, so there was little social discussion about depositor protection systems. However, as the South Korean economy grew and opened up in the 1990s, interest in depositor protection steadily increased.

Amid these changes, the bankruptcy of Barings, a major British bank, in 1995 sparked concerns in South Korea that banks could indeed fail, leading to the enactment of the Depositor Protection Act at the end of 1995. With the establishment of this law, the Korea Deposit Insurance Corporation was founded, and from January 1997, a comprehensive depositor protection system was implemented, guaranteeing deposits in full up to 20 million won per person. At the time, this amount was equivalent to 2.8 times the per capita GDP in South Korea, representing a high level of protection.

This depositor protection system played a crucial role during the International Monetary Fund (IMF) foreign exchange crisis that followed, and in 2001, the coverage limit was raised to 50 million won, a figure that remains unchanged to this day. However, as the deposit protection limit has been capped at 50 million won for 24 years, there have been increasing concerns that the coverage is insufficient given the growth of the South Korean economy. In fact, 50 million won represented only 1.15 times the per capita GDP in 2023, a significant drop from the 2.8 times in 1997. In comparison, the United States protects up to $250,000 per person, which is 3.06 times its per capita GDP; Japan, 2.11 times; the United Kingdom, 2.15 times; and Germany, 2.05 times, all considerably higher than South Korea. The average among OECD countries is also 2.45 times per capita GDP. As of the end of 2023, South Korea's deposit protection rate stood at 81.6%, far below the global average of 98%.

In response to these criticisms, the government has finally decided to raise the deposit protection limit to 100 million won starting in September this year. From September 1, if a financial institution or a mutual finance cooperative or credit union is unable to pay out deposits due to bankruptcy or other reasons, deposits will be protected up to 100 million won.

The increase in the deposit protection limit is expected to bring many positive effects to society. First, the assets of financially vulnerable groups such as the elderly and the youth will be better protected. In particular, many elderly people in South Korea deposit all of their retirement savings in banks, so this measure will provide a stronger safeguard for their retirement funds. In the past, many people have split their savings into 50 million won portions and spread them across different banks for safety, but this inconvenience, as well as concerns about bank runs, will be alleviated.

From the perspective of financial consumers, it will become more attractive to move deposits to savings banks and mutual finance institutions that offer higher interest rates than major banks, potentially increasing interest income. The Korea Deposit Insurance Corporation predicts that if the deposit protection limit is raised to 100 million won, deposits at savings banks could increase by approximately 16% to 25%. As the deposit protection limit rises, bank savings rates are expected to increase, which could lower banks' funding costs and help curb increases in lending rates.

Of course, some negative impacts are also anticipated. Higher deposit insurance premiums for banks could hurt their profitability, and there are concerns that these costs may ultimately be passed on to financial consumers. There are also worries that the increased deposit protection limit could encourage banks to take on riskier investments, potentially leading to greater instability.

The government needs to take an active role in minimizing negative impacts while maximizing positive outcomes. Through experiences with the foreign exchange crisis and the global financial crisis, South Korea has learned that banks can indeed fail. Although this move comes later than in other countries, the increase in the deposit protection limit is a welcome step for the protection of financial consumers.