Financial Authorities' Explanation... What Is the Reason for Dividend Restrictions in the Financial Sector?

"Temporary Measures to Overcome the COVID-19 Crisis"

[Asia Economy Reporter Park Sun-mi] Amid criticism over the dividend restriction guidelines for financial companies, financial authorities emphasize that this is a temporary measure to overcome the COVID-19 crisis.

In January, the Financial Services Commission passed a capital management recommendation to ensure that domestic bank holding companies and banks maintain and enhance sufficient loss absorption capacity to overcome the COVID-19 crisis. The recommendation advises domestic bank holding companies and banks to temporarily limit dividends (including interim dividends and share buybacks) to within 20% of net income. The application period is until the end of June this year, after which dividends can be freely paid as before within the scope of maintaining capital adequacy.

Regarding some claims that the dividend reduction recommendation was unilaterally enforced without legal grounds, financial authorities argue that "it was conducted transparently in accordance with relevant laws and regulations." Dividend payments by banks (including bank holding companies, hereinafter the same) can be freely made within the regulatory ratio limits under relevant laws, but in cases where there is a significant risk of impairing the soundness of financial companies, administrative guidance on dividends can be issued through a resolution of the Financial Services Commission according to Article 7 of the Financial Regulation Operation Rules.

"Conservative Capital Management Needed"

Although domestic banks maintain sound financial health despite the COVID-19 situation, there is concern that soundness may deteriorate if economic uncertainty and real economy difficulties persist long-term. Especially, recent profits were generated under the special circumstances of COVID-19, so conservative capital management is necessary to respond to uncertainties.

The Financial Services Commission explained, "Against this background, the capital management recommendation for COVID-19 response was deliberated and resolved based on stress test results in accordance with relevant laws and regulations and disclosed transparently," adding, "Most countries worldwide are recommending strict capital management such as dividend restrictions during the COVID-19 situation."

In fact, according to a Basel Committee survey, 27 out of 30 major countries worldwide are implementing capital preservation measures such as dividend restrictions due to COVID-19. For example, the European Union (EU) recommends dividends within 15% of net income, and the United Kingdom within 25%, which is stricter than South Korea (recent 5-year average of about 24%) considering that the usual dividend payout ratio of major EU banks is around 40%.

The Financial Services Commission emphasized that stress test scenarios are generally set considering more pessimistic crisis situations than typical economic forecasts, stating, "This stress test scenario was set by the Financial Supervisory Service together with the Bank of Korea, adopting the IMF's stress test analysis method. The IMF sets the growth rate corresponding to the lower 5% quantile of the future economic growth rate distribution possible under current financial conditions, and the Financial Supervisory Service and the Bank of Korea applied this method based on June of last year, the stress test reference point, to set the economic growth forecast."

Regarding concerns that the dividend restriction recommendation by financial authorities might lower banks' credit ratings, it was clarified that "overseas credit rating agencies such as Moody's evaluate the dividend restriction recommendation as positive for banks' credit ratings."

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