Interest Burden Hits Companies Amid Big Step... 3.9 Trillion Won This Year Alone

Large Corporations Face Additional Interest Burden of 1.1 Trillion KRW, SMEs 2.8 Trillion KRW
IPO Market Shrinks...New Corporate Investments Become Difficult

A loan information notice displayed in front of a bank in downtown Seoul. Photo is not directly related to the article [Image source=Yonhap News]

[Asia Economy Reporter Jeong Dong-hoon] As the Bank of Korea made its first-ever 'big step' (0.5% base interest rate hike), concerns are rising that companies will be exposed to triple or quadruple hardships including global economic slowdown, high exchange rates, and high interest rates. The interest on corporate loans to be repaid this year is expected to increase by about 4 trillion won, and there are worries about profit erosion due to reduced consumption.

According to the Bank of Korea and the industrial sector on the 17th, as the Monetary Policy Committee raised the base interest rate from 1.75% per annum to 2.25%, corporate loan interest payments this year are estimated to increase by 3.9 trillion won. According to a recent report released by the Korea Chamber of Commerce and Industry, of the 3.9 trillion won increase in interest, 2.8 trillion won is the burden on small and medium-sized enterprises (SMEs), which is more than twice the 1.1 trillion won borne by large corporations.

Companies face double hardship as interest burden rises amid increased production costs

The Chamber of Commerce pointed out short-term economic contraction, corporate financial burden, and foreign capital outflow as key factors to watch when domestic policy interest rates change.

First, the report assessed the possibility of short-term economic contraction. According to SGI analysis, raising policy interest rates to lower inflation requires some sacrifice in economic growth rate. This is called the 'sacrifice ratio,' which refers to the cost of growth loss accompanying the decline in inflation.

Based on past periods of inflation slowdown, SGI's research found that to reduce inflation by 1 percentage point, the economic growth rate must be sacrificed by up to 0.96%. This is somewhat higher than the average sacrifice ratio (0.6 to 0.8) of major advanced countries, indicating that the domestic economy reacts more sensitively to interest rate hikes.

Next, concerns were raised about increased corporate financial burdens due to interest rate hikes. SGI pointed out that since COVID-19, "the number of marginal companies unable to even cover interest expenses with operating profits has significantly increased." In fact, the proportion of marginal companies in Korea last year was 16%, about 3.6 percentage points higher than 12.4% in 2019 before the COVID-19 crisis.

Bank of Korea Governor Lee Chang-yong is answering questions from the press at the Monetary Policy Direction press conference held at the Bank of Korea in Jung-gu, Seoul on the 13th. Photo by Kang Jin-hyung aymsdream@

"High interest rates impact SMEs more"…foreign capital outflow risk also rises

In particular, the impact of interest rate hikes is expected to be greater on SMEs than on large corporations. The report stated, "SMEs have relatively small sales volumes and lower credit ratings, so they heavily rely on bank loans rather than issuing stocks or bonds for financing," adding, "With a 0.5 percentage point increase in the base interest rate, large corporations' interest burden will increase by 1.1 trillion won, while SMEs' will increase by 2.8 trillion won." The possibility of foreign capital outflow is also a consideration. The report explained, "Looking at past periods of policy rate inversion between Korea and the U.S., even when the interest rate differential narrowed or inverted, foreign capital inflows were centered on bonds," and "foreign capital is determined by various factors beyond interest rate levels between the two countries, including exchange rates and domestic economic fundamentals."

Even large corporations that have mechanisms to diversify risks through financial assets are not immune. In a situation of heightened global uncertainty, high inflation and exchange rate burdens combined with high interest rates inevitably become negative factors. An industry insider said, "When interest rates rise by 1%, the combined effect of rising financial assets and declining financial liabilities may result in a net positive effect," but added, "there could be increased uncertainty due to demand reduction from economic contraction." Professor Sung Tae-yoon of Yonsei University's Department of Economics said, "Companies that have taken out large loans to operate may be at risk," and suggested, "The government should consider policies such as tax support to help reduce costs."

With the interest rate hike reducing liquidity in the capital market, the IPO (Initial Public Offering) market is expected to freeze further. Companies withdrawing their listings have already been increasing since last year. This inevitably leads to contraction in new investments and business expansion by companies.

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