"Pandemic Recession... Need to Check Capital Adequacy of Commercial Banks"

Considering Corporate Bankruptcies, Economic Recession, and Loan Expansion Pressure Amid Prolonged COVID-19
Banks Have Adequate BIS Ratios but Must Prepare for Prolonged Impact

[Image source=Yonhap News]

[Asia Economy Reporter Kim Eunbyeol] As the novel coronavirus infection (COVID-19) continues for a prolonged period with no end in sight, there are calls to assess the capital adequacy of commercial banks. Although domestic banks' capital adequacy is currently considered to be at a healthy level, given that the impact of the COVID-19 crisis surpasses that of the 2008 global financial crisis, it is necessary to check whether banks can withstand the shock. During the global financial crisis, the capital ratios of banks worldwide also sharply declined.

On the 18th, the International Finance Center pointed out, "Although banks accumulated capital exceeding regulatory levels in response to the financial crisis and the European sovereign debt crisis, concerns are growing that major countries' banks may face capital shortages considering corporate bankruptcies, economic recession, and lending expansion pressures caused by the COVID-19 pandemic."

Before COVID-19 spread to the U.S. and Europe, most economic experts agreed that banks had sufficient capital. After the financial crisis, countries strengthened regulations on banks, resulting in banks accumulating capital well above regulatory requirements.

In fact, as of the end of last year, the average BIS (Bank for International Settlements) total capital ratio, Tier 1 capital ratio, and common equity tier 1 capital ratio of domestic banks were 15.25%, 13.20%, and 12.54%, respectively. Although these figures declined for the first time in four years, they had been on an upward trend since 2016. Therefore, they significantly exceeded the Basel III regulatory ratios (total capital 10.5%, Tier 1 capital 8.5%, common equity tier 1 capital 7%, etc.). In March, Sohn Byungdoo, Vice Chairman of the Financial Services Commission, stated, "Unlike in 2008, it is difficult to view the current situation as market instability caused by banks," affirming that domestic banks have sufficient loss-absorbing capacity.

However, as COVID-19 became a pandemic, negative views have emerged, especially among academics and principled observers. The BIS estimated that banks worldwide hold $5.1 trillion in capital exceeding the minimum regulatory capital requirement (Pillar 1). This buffer size is considered sufficient to lend an additional approximately $25 trillion. However, scenario tests considering past major crises forecast that available capital will fall significantly short.

Recently, the fact that the world, led by the U.S. and Germany, is entering a recession is also a burden for banks. If the quarterly gross domestic product (GDP) growth rate records negative figures for two consecutive quarters, signaling a full-fledged recession, corporate financing will become even more difficult.

The International Finance Center stated, "Currently, thanks to extensive policy support, there are many positive views on banks' capital adequacy, but if the COVID-19 pandemic prolongs, deepening the recession and accumulating non-performing loans due to moral hazard, doubts about banks' capital adequacy may increase." In particular, if the bond market shows instability, companies will have no choice but to borrow through banks, and for many small and medium-sized enterprises, bank loans are the only source of funding. Furthermore, the International Finance Center added, "From the authorities' perspective, verifying the actual available capital size of banks and assessing adequacy is a very important matter," noting that "the BIS has also recommended that authorities strengthen credit guarantees and provide capital support to banks to prevent their capital ratios from falling to levels that threaten the financial system."

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