Rising household debt

An office worker took out a bank loan to buy an apartment in 2006 when housing prices were peaking but is still paying interest on the loan. Another worker with relatively low credit borrowed money from a credit cooperative for medical costs and rental deposits. Household loans extended by financial institutions have increased an annual average of 12 percent since the 1997 currency crisis to reach a record-high 900 trillion won (810 billion U.S. dollars) late last year.

Certain experts say the debt burden of Korean households is lower than that of other major advanced economies. At the end of 2009, Korean household debt was 86 percent of GDP, lower than that of Japan, the U.S. and the U.K., where debt levels reached 92 to 111 percent. While the household debt-to-GDP ratio has decreased since 2006 in these three countries, however, that of Korea has risen. In the face of falling income and unstable employment due to the global economic crisis that began in 2008, households in major economies including the U.S. started to tighten their belts. but those in Korea kept open their purses.

The risk of household debt defaults, which had been tame so far thanks to low interest rates and rising stock prices, is now escalating as the Bank of Korea moves to raise its benchmark rate further this year. A survey by Statistics Korea at the end of last year showed 72 percent of households were burdened by debt. Samsung Economic Research Institute said an increase of lending rates by 2 percentage points raises the interest burden on households by 18 trillion won (16 billion dollars) per year.

A surge in household debt can lead to household bankruptcies, reduce consumption, and raise bad loans at financial institutions, ultimately resulting in a recession and financial crisis. The U.S. subprime mortgage meltdown that led to the global economic crisis started from a small spark. The Korean government should prevent household debt from causing a crisis by first putting the brakes on household debt. The maturity of home equity loans, which account for 60 percent of Korea`s household debt, has decreased to 13.8 years on average. Ninety percent of household debt is based on floating rates, which raises the household burden when rates are hiked. Stricter lending criteria at commercial banks have led households to turn to non-banking financial institutions such as mutual savings banks, while overdue loan rates are rising.

More than half of Korea`s national debt is taxable and the debt of state-owned institutions is also rising. The government, state-owned institutions and households are all facing a high debt burden yet spending shows no signs of abating. The Korea economy is expected to grow more than 5 percent this year but potential risks lurk right around the corner.