Government-Backed Public Enterprises' 'Snowballing Debt'... KDI Urges Imposition of Guarantee Fees

[Sejong=Asia Economy Reporter Son Seon-hee] An analysis has emerged that the reason why South Korea's public enterprise debt is unusually high compared to other advanced countries is due to a structural problem where 'government payment guarantees' are granted too easily. It is pointed out that bonds issued by public enterprises should, in principle, be included in the national guaranteed debt and that guarantee fees should be charged based on risk.

The Korea Development Institute (KDI) stated in its report titled "Improvement Measures for Public Enterprise Debt and Public Bonds" on the 20th, "Among major countries, South Korea has the highest public enterprise debt, and the 'implicit payment guarantee' that the government will take responsibility in emergencies increases public enterprise debt and results in weakening fundamentals."

According to figures estimated by the International Monetary Fund (IMF) last year, South Korea's non-financial public enterprise debt accounted for 23.5% of its Gross Domestic Product (GDP) as of 2017. Except for the special case of Norway, where the general government net debt is negative (-), this is the highest figure among the 33 OECD member countries. Moreover, it far exceeds the average of the 33 countries (12.8%). The gap is not only large compared to Japan (17.2%), known for its extremely high public sector debt, but South Korea's public enterprise debt is also higher than that of major reserve currency countries such as the United Kingdom, Canada, Germany, and France.

This public enterprise debt mostly arises from the issuance of public bonds. Generally, companies can borrow funds through bank loans or bond issuance, but South Korean public enterprises have raised more than 50% of their debt through public bond issuance. As a result, the market for public bonds issued by public enterprises is larger than the government bond market. This is a unique phenomenon found only in South Korea among major countries.

KDI identified structural vulnerabilities in public enterprise debt as the underlying cause. The report stated, "South Korean public enterprises almost always receive the highest credit rating regardless of their own fundamentals such as soundness or profitability," explaining, "This is because of the belief that if a public enterprise seems likely to go bankrupt, the government will step in and pay the principal and interest on the bonds in advance." This is the so-called government's 'implicit payment guarantee.'

However, the report points out that this very situation causes a 'double moral hazard' between public enterprises and the government. KDI Research Fellow Hwang Soon-joo said, "Implicit payment guarantees ultimately cause greater economic losses than the simple effect of reducing interest costs," and criticized, "The government sometimes pushes forward policy projects that impose excessive fiscal burdens on future generations."

He continued, "Relying on the government's support possibility, public enterprises can raise large-scale funds at low interest rates comparable to government bonds, and knowing this, the government can also demand financially burdensome policy projects from public enterprises," adding, "Overseas resource development projects, which led some energy public enterprises to a state of complete capital erosion, were also promoted by issuing massive public bonds."

In response, Research Fellow Hwang suggested, "In the future, all public bonds should, in principle, be included in national guaranteed debt and be subject to official management," and "To prevent moral hazard in advance, guarantee fees should be charged linked to risk after assessing the risk level of public enterprises." He also added, "Just as banks are subject to capital regulations to maintain soundness, it is worth considering applying capital regulations to public enterprises as well."

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