[Initial Insight] Growing Household Interest Burden... Need to Establish a 'Crisis Management Plan'

Customers are receiving consultations at a loan counter of a bank in Seoul.
[Image source=Yonhap News]

[Asia Economy Reporter Kwangho Lee] Household interest burdens are increasingly growing. Due to the phenomena of Yeongkkeul (borrowing to the limit) and Debt Investment (q-borrowing to invest) for real estate, stocks, and cryptocurrency investments, household debt has swelled to a record high of 1,765 trillion won (as of the first quarter of this year). With the Bank of Korea hinting at the possibility of raising interest rates within the year, the amount of interest households must pay is expected to increase further.

Bank of Korea Governor Lee Ju-yeol said after the Monetary Policy Committee meeting on the 27th of last month, "If interest rates rise, it is inevitable that households' (interest) burden will increase, but if the increase in household debt continues, the side effects will be too great and need to be curbed." This is the first time Governor Lee has mentioned the possibility of an interest rate hike within the year.

According to the Bank of Korea, if personal loan interest rates rise by 0.5 percentage points, the household interest burden will increase by 5.9 trillion won. If it rises by 1 percentage point, the burden doubles (11.8 trillion won), and it is estimated that self-employed individuals in crisis will have to pay an additional 5.2 trillion won in interest.

The Korea Economic Research Institute forecasted that if South Korea's short-term government bond interest rates rise by the appropriate amount corresponding to the US rate hike, the average household loan interest rate will increase by 1.54 to 1.73 percentage points. The resulting annual household loan interest burden is estimated to be between 25.6 trillion and 28.8 trillion won. Considering that 57.7% of households had financial debt according to last year's Statistics Korea Household Finance and Welfare Survey, the interest burden per household with financial debt is expected to increase by 2 to 2.5 million won.

Interest burdens are already on the rise as expected inflation (price pressure) is reflected. In April, the overall household loan interest rate at deposit banks (weighted average, based on new loans) was 2.91%, up 0.12 percentage points from 2.79% at the end of last year. Mortgage loan interest rates rose by 0.14 percentage points from 2.59% to 2.73%. These rates have been steadily increasing since August last year. Going forward, loan interest rates in the banking sector may rise more steeply.

Interest rate hikes have already become a given, and there is a high possibility of financial distress emerging, especially among risky and marginal households struggling to repay debt.

There is no visible exit strategy to overcome this situation. The cryptocurrency and stock markets, which recently surged as representative asset growth means, are not as active as before. Bitcoin, the leading cryptocurrency, soared to 81 million won in April but is currently trading around 41 million won as of June. The KOSPI closed at 3,252.12 the day before, breaking the all-time high record of 3,249.30 set on the 10th of last month, but it has been fluctuating between 3,000 and 3,300 since the end of last year, maintaining a sideways market.

Now is the time for both financial authorities and households to prepare a 'crisis management plan.' Financial authorities must hasten comprehensive measures to improve the qualitative structure of household debt for a soft landing in preparation for the shock of interest rate hikes. They should anticipate various scenarios of how the shock of a crisis might spread and establish inter-ministerial cooperation systems. Above all, they must carefully manage to prevent problems among vulnerable groups.

Households must also break away from complacent thinking like "things will work out." They should strive to repay loans early before interest rates rise further, and if the situation is difficult, it is better to switch from lump-sum maturity repayment or variable interest types to principal installment repayment methods. The crisis is imminent. All economic actors must prepare for the worst to prevent the household debt time bomb from exploding.

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