Bank of Korea to Buy Special Bank Bonds... Securities Firms' Loans "Under Practical Consultation" (Comprehensive)

Lee Ju-yeol "Achieving 1% Growth Rate This Year Is Not Easy"

Decided to Purchase San-eun and Su-eun Bonds
Considering Secured Loans Using Corporate Bonds from Securities Firms
Concerned About 'Moral Hazard Controversy'

Base Interest Rate Held at 0.75%
Already Supplied 45 Trillion Won in Market Liquidity
"Let's Observe the Effect of the Big Cut," He Says

[Asia Economy Reporters Eunbyeol Kim, Sehee Jang, Jihwan Park] The Bank of Korea (BOK) will purchase special bank bonds for the first time since the 2008 financial crisis. Special bank bonds have been included in the simple trading target securities, which were previously limited to government bonds and guaranteed bonds. Along with this, the BOK indicated that South Korea's economic growth rate is bound to plunge sharply this year, suggesting growth in the 0% range. However, the base interest rate was maintained at the current 0.75%. This is interpreted as a decision to observe the effects of measures already implemented, such as last month's 'big cut' and the Korean version of quantitative easing.

On the 9th, at the Monetary Policy Committee meeting, the BOK decided to include special bank bonds in the simple trading target securities, which had been limited to government bonds and guaranteed bonds. This is the first time since the 2008 global financial crisis that the BOK has expanded the scope of simple trading target securities. The Monetary Policy Committee approved an amendment to the open market operation regulations to include ▲small and medium enterprise finance bonds ▲export-import finance bonds ▲and Korea Housing Finance Corporation mortgage-backed securities (MBS) in the simple trading target securities. The BOK stated, "This measure is expected to facilitate funding for financial institutions and reduce funding costs."

Regarding loans to securities firms and other non-bank financial institutions, the BOK said it is currently developing specific plans. Therefore, announcements may be made once the loan targets and collateral securities scope are finalized. BOK Governor Lee Ju-yeol said at a press conference following the Monetary Policy Committee meeting, "We are preparing a system to provide loans to securities firms using high-quality corporate bonds as collateral in cooperation with the government," adding, "Details will be concretized through consultations." Since direct loans from the BOK to securities firms are a sensitive issue, specific plans are being carefully reviewed. Instead, the BOK decided to include special bank bonds in the open market operation target securities. This means providing liquidity indirectly so that special banks can purchase more corporate bonds or commercial papers (CP) and support the market.

Governor Lee also forecasted that this year's growth rate will be in the 0% range. He said, "This year's growth rate is expected to fall significantly below the February forecast path," adding, "The uncertainty of the growth forecast path is also judged to be very high." He continued, "Growth depends on the development of the COVID-19 situation, so it is highly variable and uncertain," and "Assuming various scenarios, positive growth is expected this year, but growth in the 1% range is unlikely." This suggests growth in the 0% range, based on a scenario where COVID-19 is contained by the second quarter and economic activity improves in the second half.

Governor Lee added, "Consumption has sharply declined, facility investment recovery is constrained, construction investment adjustments continue, and exports have slightly decreased," and "Employment showed a strong increase in the number of employed persons until February, but temporary layoffs increased as economic activity contracted." Regarding inflation, he said, "Consumer price inflation and core inflation are expected to fall significantly below the February forecasts (1.0% and 0.7%, respectively) due to the expanded impact of falling international oil prices and weakening demand-side pressures."

[Image source=Yonhap News]

◆Purchasing Special Bank Bonds, Effect of Expanding Liquidity= When the BOK purchases securities in the financial market, corresponding liquidity (base money) is supplied to the market, and conversely, when it sells securities it holds, corresponding liquidity is withdrawn. By purchasing special bank bonds such as Korea Development Bank (KDB) bonds, the BOK supplies funds to financial institutions, enabling special banks to issue bonds at lower interest rates. If these funds are used to purchase corporate bonds, it also stabilizes the bond market. This measure will take effect from the 14th and is valid until March 31, 2021.

A banking sector official said, "The issuance scale of special bank bonds by KDB, IBK Industrial Bank, and Export-Import Bank is large, and allowing the BOK to absorb special bank bonds held by general commercial banks will increase liquidity for general banks," adding, "If the BOK directly purchases special bank bonds from banks, it means banks can raise funds under better conditions, which is significant." Recently, commercial banks that have increased loans in line with the government's COVID-19 response measures are concerned about declining net interest margins (NIM), so this measure helps them secure liquidity more easily. However, it is uncertain whether this measure will induce special banks such as KDB, IBK, and Export-Import Bank to increase issuance. The official said, "Since the BOK's situation differs from that of the U.S. Federal Reserve (Fed), it seems to be taking conservative, gradual steps."

◆Loans to Securities Firms Under Review= The BOK did not decide on loans to securities firms and other non-bank financial institutions on this day, likely due to concerns about moral hazard. Agreement with the government is also necessary, and if high-risk CP is used as collateral, there could be criticism that "securities firms profit from CP when the market is good, but rely on the BOK when it is not." According to Article 80 of the Bank of Korea Act, collateral loans to non-bank financial institutions require approval from the Monetary Policy Committee, so there was keen interest in whether loan plans and targets would be decided, but no specific details were announced.

The securities industry evaluated that if the BOK provides loans using corporate bonds as collateral, it would greatly help secure liquidity. According to the Korea Securities Depository, as of the 8th, the outstanding issuance of corporate bonds and CP stood at KRW 207.8608 trillion and KRW 65.4962 trillion, respectively. Among these, securities firms hold corporate bonds worth KRW 70 to 80 trillion. These corporate bonds are high-quality bonds rated AA or higher, so the BOK can provide loans using them as collateral without significant risk. It is reported that whether CP will be included as collateral for loans has not yet been decided.

[Image source=Yonhap News]

◆"Let's Monitor Interest Rates for the Time Being"= The BOK's decision to keep interest rates unchanged on this day is interpreted as a desire to observe the effects of previously implemented measures. KB Securities researcher Sanghoon Kim said, "It seems there was no situation warranting an additional base rate cut," adding, "Since central banks worldwide have recently introduced measures and international markets have stabilized, the BOK is taking a wait-and-see approach." The BOK's future response will likely depend on this year's growth rate.

First, the negative growth in the first quarter's gross domestic product (GDP) is a concern. The BOK will announce the flash estimate of real GDP growth for the first quarter on the 23rd. In the February economic outlook briefing, the BOK stated, "There is a possibility that the first quarter GDP will be lower than -0.4% compared to the same period last year, which was already below the first quarter of last year." At that time, Lee Hwan-seok, head of the BOK's research department, predicted, "Short-term negative impacts due to COVID-19 are inevitable. Real indicators for February and March will significantly slow down." The annual growth rate is also expected to be revised sharply. In February, the BOK forecasted 2.1% growth for this year, but the May economic outlook may revise it to growth in the 0% range.

◇Terminology Explanation

◆Special Bank Bonds= Bonds issued by banks established under special laws, such as KDB Korea Development Bank, IBK Industrial Bank of Korea, and Export-Import Bank of Korea. These special banks are based on individual establishment laws such as the Korea Development Bank Act.

This content was produced with the assistance of AI translation services.