[Bank of Korea Communication Report] "Rapid Increase in Household Loans May Constrain Growth"

Bank of Korea 'Monetary and Credit Policy Report (June 2021)'

[Asia Economy Reporter Kim Eun-byeol] The Bank of Korea expects the rapid increase in household loans to continue for the time being due to demand for funds related to housing sales and jeonse (long-term lease) transactions. Consequently, the burden of principal and interest repayments will increase, potentially leading to a long-term contraction in consumption and a lower growth rate, raising concerns.

On the 10th, the Bank of Korea stated in its 'Monetary and Credit Policy Report (June 2021)' that "Considering the continuation of accommodative financial conditions and demand related to housing sales and jeonse transactions, the high growth rate of household loans is likely to continue for the time being." The Bank also analyzed that not only housing-related loans but also other household loans (such as credit loans) are likely to continue increasing alongside demand for investment in risky assets.

According to the Bank of Korea, since 2019, the rise in housing prices and the increase in household loans have both accelerated, causing the household debt-to-GDP ratio to jump from 91.8% at the end of 2018 to 103.8% at the end of 2020. This is the sixth highest level among 37 OECD countries, and the increase in the ratio since 2019 (12 percentage points) ranks second after Norway (15.4 percentage points).

The Bank of Korea identified the main cause of the increase in household debt as the rise in housing prices. The report diagnosed that "recent housing prices have risen rapidly, showing a significant gap from basic purchasing power such as income."

For example, as of the first quarter of this year, the price-to-income ratio (PIR) of housing in the Seoul metropolitan area was 10.4 times, significantly exceeding the pre-global financial crisis peak (1Q 2007, 8.6 times). This means that one would have to save their entire annual income for over 10 years without spending a single penny to afford a home in the metropolitan area. The PIR in provincial areas, which had been declining since 2017 (4.9 times), has rapidly increased since last year, surpassing the previous peak (2Q 2017, 4.4 times).

The background for this strong housing price trend was primarily attributed to "concerns about housing supply shortages." Due to low marriage rates, the number of households increased by 2.37 million from 2015 to 2020, mainly among one- to two-person households, maintaining strong demand for new housing. As worries about housing supply, such as a decrease in apartment move-in volumes, became prominent, housing purchases increased.

Additionally, the Bank of Korea expressed concern that the "financial imbalance" state, including rising household debt and housing prices, could constrain growth in the long term. According to consumption theory, an appropriate level of debt increases consumption through efficient resource allocation, but exceeding this level can lead to reduced consumption due to the burden of principal and interest repayments.

According to an analysis by the International Monetary Fund (IMF), if the household debt-to-GDP ratio increases by 1 percentage point (p), the consumption growth rate falls by nearly 0.3 percentage points (p) after 3 to 4 years. In South Korea, since 2014, the household debt growth rate has consistently exceeded income growth, weakening the positive (+) relationship between household debt and private consumption.

The Bank of Korea warned in the report that "the concentration of funds into specific sectors such as real estate, which appears during the accumulation of financial imbalances, can increase economic volatility and reduce growth potential."

However, at the current point in time, the Bank of Korea's assessment is that the financial imbalance does not undermine the overall stability of the financial system. The Bank evaluated that "although financial institutions' real estate-related exposures (loans, investments, etc.) are expanding, collateral ratios such as LTV (loan-to-value ratio) have declined due to rising housing prices and loan regulations, and domestic banks' capital adequacy and loss absorption capacity are generally sound."

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