Rapid Increase in Secondary Financial Sector Loans Due to Debt Investment and COVID-19... Financial Risk 'Red Alert' (Comprehensive)

Savings Banks and Mutual Finance Loan Balances
376.8422 Trillion KRW in October Last Year
Increased by Over 30 Trillion KRW Compared to the Previous Year

[Asia Economy Reporters Sunmi Park and Hyojin Kim] As commercial banks tighten lending to strengthen risk management, loans are increasingly flowing into the secondary financial sector, where interest rates are higher. Due to mixed loan demand for funds for stock and real estate investments and for small business owners struggling amid the spread of the novel coronavirus disease (COVID-19), there are growing concerns that the soundness of the secondary financial sector?widely used by vulnerable borrowers such as middle- and low-credit borrowers and low-income individuals?is being threatened.

According to the Bank of Korea on the 11th, as of the end of October last year, the loan balances of savings banks and mutual finance institutions stood at 74.3955 trillion won and 302.4467 trillion won, respectively, totaling 376.8422 trillion won. This is an increase of more than 30 trillion won compared to 347.4136 trillion won at the end of 2019. In particular, savings banks saw a loan growth rate of 17.1% year-on-year.

While household credit loan interest rates at commercial banks are around the 3% level, interest rates in the secondary financial sector are in the mid-to-high teens, imposing a heavy interest burden. Moreover, many customers using the secondary financial sector are vulnerable borrowers such as middle- and low-credit borrowers and low-income individuals who cannot borrow from primary financial institutions, which raises concerns about the increase in secondary financial sector loans. This is because loan delinquency issues may arise, especially among vulnerable borrowers with lower repayment capacity.

The secondary financial sector needs to start 'sorting the wheat from the chaff' among borrowers, but this is not easy. Unlike corporations whose business conditions can be analyzed, it is relatively difficult to detect early signs of delinquency among small business owners, limiting the financial sector’s ability to respond.

Above all, the increase in corporate loans in the secondary financial sector presents a greater concern in the post-COVID era, where corporate insolvencies are inevitable.

As of the end of August last year, corporate loans in the secondary financial sector amounted to 178.4 trillion won, a 16.8% increase from 152.7 trillion won at the end of 2019. As of the end of August, the corporate loan growth rates compared to the end of 2019 were 10.7%, 9.5%, and 19.4% for banks, savings banks, and mutual finance institutions, respectively. Notably, the growth rate of mutual finance institutions, where loans to individual business owners account for 57.9%, stands out.

Concerns over Soundness of Small- and Medium-sized Secondary Financial Institutions
"Proactive Response Needed through Increased Loan Loss Provisions, Especially for Small Financial Companies"

Although savings banks generally appear to maintain soundness for now, some regional savings banks are showing warning signs. As of the end of the second quarter, the average delinquency rate for savings banks was 3.32% in the metropolitan area and 5.54% in regional areas, with some regions exceeding 10%.

Graph: Bank of Korea Financial Stability Report

Goo Jeong-han, a research fellow at the Korea Institute of Finance, advised, "Even if the soundness of banks and secondary financial institutions is currently stable, considering the rapid increase in loans to small and medium-sized enterprises, including individual business loans, proactive measures such as increasing loan loss provisions should be taken, especially focusing on small financial companies in the secondary financial sector that are relatively vulnerable to risks."

Baek Jong-ho, a research fellow at Hana Financial Management Research Institute, also warned, "Signs of deteriorating financial soundness are emerging in the secondary financial sector. Although financial support for borrowers temporarily facing difficulties due to COVID-19 is inevitable, the broad-based support makes it difficult for the financial sector to take preemptive measures. As a result, if the impact of COVID-19 is reflected mainly in the secondary financial sector, which has a high proportion of vulnerable industries and low-credit borrowers, profitability decline and soundness deterioration are expected to accelerate."

Financial authorities are closely monitoring the rising loan trend in the secondary financial sector with caution. Due to concerns that funding difficulties faced by small and medium-sized enterprises and self-employed individuals could lead to financial sector insolvencies, the authorities are devising a soft-landing roadmap to normalize financial support. They plan to establish additional provisioning standards to enhance preemptive loss absorption capacity and closely monitor soundness trends in preparation for prolonged economic downturn caused by COVID-19.

A financial authority official explained, "However, in the secondary financial sector, many loans are related to living expenses of ordinary people due to COVID-19 rather than 'debt-financed investment' or 'all-in investment.' While we will manage soundness through overall strengthening of loan screening, there are difficulties in preparing preemptive financial risk responses due to the COVID-19 situation."

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