[Q&A] BIS Secretary-General: "Korean Housing Prices Must Be Lowered... Household Debt Monitoring Needed"

Agustin Carstens BIS Secretary General Press Conference

Agust?n Carstens, Secretary General of the Bank for International Settlements (BIS), emphasized the need for "monitoring" South Korea's high household debt ratio relative to its gross domestic product (GDP), stating that "efforts should be made to lower housing prices to reduce the burden on households."

Secretary General Carstens made these remarks during a press conference held on the 24th at the Bank of Korea headquarters in Jung-gu, Seoul. The BIS releases quarterly data on debt ratios relative to GDP for major countries, and as of the second quarter of this year, South Korea's household debt ratio stood at 101.7%, placing it among the highest globally.

He pointed out, "Local governments, project developers, and banks all need to cooperate to lower housing prices and reduce household burdens," adding, "There is a need to use macroprudential policies concerning financial vulnerabilities and high financial debt ratios."

Regarding South Korea's neutral interest rate, Carstens explained that it is on a downward trend. The neutral interest rate refers to the level of interest rates that allows the economy to return to its potential growth rate without inflationary or deflationary pressures.

On June 6, Bank of Korea Governor Lee Chang-yong and former U.S. Treasury Secretary Lawrence Summers discussed the neutral interest rate during a virtual dialogue held in conjunction with the Bank of Korea?World Bank (WB) Seoul Forum. At that time, Governor Lee anticipated that South Korea's neutral rate would decline due to aging and other factors, whereas Professor Summers expressed the opposing view that it would rise in line with global trends, including those in the U.S.

Carstens said, "Since both are Harvard-educated economists, I am not sure how to respond," but added, "If I had to choose, I agree with Governor Lee's view." He continued, "There is evidence that long-term factors, including demographic changes, may have globally lowered the neutral interest rate."

Regarding the timing of interest rate cuts by major central banks, he predicted, "Next year is too soon." However, on the possibility that South Korea might cut rates before the U.S., he positively assessed that "the Bank of Korea has the capacity to conduct monetary policy independently of the U.S. situation."

Below is a Q&A with Secretary General Carstens.

Agustin Carstens, General Manager of the Bank for International Settlements (BIS), is answering questions at a press conference held on the 24th at the conference room of the Bank of Korea headquarters in Jung-gu, Seoul. (Photo by Bank of Korea)

- How long do you expect the current high interest rate phase to last? Also, major central banks have recently raised rates rapidly; how do you assess the global refinancing risk arising from this?

▲ While I cannot be definitive, I believe most central banks have nearly completed their rate hikes. The important thing is to observe how the monetary policy (interest rate) transmission affects refinancing costs. Countries with large short-term external debt and a high proportion of variable-rate debt will experience faster and more severe transmission effects, whereas those with lower short-term external debt and higher fixed-rate debt will see these effects more gradually.

Many countries are feeling the impact of higher costs due to elevated interest rates, and these costs may increase further. Many worry that rising borrowing costs will negatively affect consumption and investment, ultimately harming financial stability and economic growth. Fortunately, in many countries, these shocks have been milder than expected. With inflation currently declining, many countries are achieving a soft landing. Therefore, financial instability is not significantly impacting economic growth.

- You mentioned that major central banks have nearly finished raising rates. What is your view on the possibility of rate cuts next year?

▲ Rate cuts will happen eventually, but it is too soon to say they will occur next year. Some Latin American countries have cut rates, but this is because they raised rates earlier than others. Rates should be maintained until there is confidence that inflation is sufficiently stabilized. Monetary policy has lags, so it takes time to affect inflation and economic growth. Central banks need to be patient and observe.

- It seems realistic to say that South Korea's monetary policy is not independent of the U.S. Although the U.S. may maintain high rates for some time, if there are signals of tightening ending, do you think South Korea might cut rates earlier than the U.S., considering domestic economic conditions?

▲ Generally, many countries, including South Korea, are influenced by U.S. monetary policy. However, the Bank of Korea implements credible policies and is an institution guaranteed autonomy. I believe it has sufficient capacity to conduct monetary policy independently of external factors or the U.S. situation.

- In major advanced countries, government fiscal spending increased significantly before and after the COVID-19 pandemic. Given that fiscal spending on welfare, defense, etc., is expected to rise due to geopolitical risks and aging populations, how do you think excessive fiscal spending by countries will affect global inflation in the future?

▲ Inflation rose significantly due to supply shocks and demand stimulus, with the latter stemming from fiscal policy. Fiscal stimulus policies have been used by governments over the past decade and expanded further due to COVID-19. Although they are now decreasing, fiscal stimulus remains substantial. Since inflation began rising sharply two years ago, many countries have tightened monetary policy. Fiscal policy is easing while monetary policy is tightening, which works against each other and is not ideal. If monetary and fiscal policies were more coordinated and aligned, it would be more efficient in lowering inflation and interest rates.

Over the past decade, many countries have run overly expansionary fiscal policies, causing public debt ratios relative to GDP to increase significantly. If high interest rates persist, debt servicing burdens will rise, raising concerns about fiscal sustainability. For economic growth and financial stability, it is important that both monetary and fiscal policies operate within the 'region of stability.' Expansionary fiscal and monetary policies have reached their limits. Therefore, structural reforms are needed to boost productivity and find new growth engines.

Agustin Carstens, General Manager of the Bank for International Settlements (BIS), is answering questions at a press conference held on the 24th at the conference room of the Bank of Korea headquarters in Jung-gu, Seoul. (Photo by Bank of Korea)

- While the U.S. continues to increase fiscal spending amid concerns, the South Korean government focuses on fiscal soundness. How do you evaluate the U.S. and South Korea from the perspective of the 'region of stability'?

▲ The U.S. is a special case. Increased fiscal spending does not seem to pose a major problem. The increase in U.S. fiscal spending does not necessarily raise issues of fiscal sustainability. Although some credit rating agencies may express concerns, it is not a significant problem. However, fiscal expansion makes price stability more difficult, so fiscal tightening is needed. I believe South Korea's monetary and fiscal policies are both proceeding appropriately. The debt-to-GDP ratio is at an acceptable level, and South Korea is indeed within the 'region of stability.'

- Since the 1980s, rapid rate hikes in the U.S. have repeatedly caused capital outflow crises, especially in emerging markets. Do you expect issues such as capital outflows or external debt expansion to arise again in emerging markets this time?

▲ In the past, many emerging markets had macroeconomic imbalances that made them very vulnerable to external interest rate changes. But now, they have healthier macroeconomic policies and have addressed many vulnerabilities. They have adopted variable interest rate systems, ensured central bank autonomy, implemented inflation targeting, and maintain sound fiscal policies. Additionally, financial system supervision and regulation are well established, and foreign exchange reserves have increased. Market confidence in emerging markets has risen, leading to increased investment. Therefore, it appears there has been no particular crisis due to U.S. rate hikes.

Shin Hyun-song, Economic Advisor and Director of the Research Department at the Bank for International Settlements (BIS), is answering questions at a press briefing held on the 24th at the Bank of Korea headquarters conference room in Jung-gu, Seoul. (Photo by Bank of Korea)

- Governor Lee Chang-yong said that South Korea's neutral interest rate is declining due to aging and low birth rates, while former U.S. Treasury Secretary Lawrence Summers said that the U.S. neutral rate is rising and South Korea might follow global trends and rise as well (during the June 6 virtual dialogue). What is your view?

▲ Since both are Harvard-educated economists, I am not sure how to respond. If I had to choose, I agree with Governor Lee's view. There is actual evidence that long-term factors, including demographic changes, have globally lowered the neutral interest rate. However, the important issue is that the level of uncertainty is very high.

- South Korea's household debt is an issue. What is the best way to manage it?

▲ It is a complex problem. It is related to South Korea's housing development and limited land area, so it is not easy to solve. Regarding structural issues, local governments, project developers, and banks all need to cooperate to lower housing prices and reduce household burdens. South Korea's household debt exceeds 100% of GDP, which requires continuous monitoring. Financial authorities should take a more cautious stance in evaluating this situation. Moreover, macroprudential policies are needed concerning financial vulnerabilities and high financial debt ratios.

- Do you expect any countries to face external soundness issues next year? Also, you mentioned the need for macroprudential policies; what specific measures do you mean?

▲ Some developing countries lack a macroeconomic framework and have large debt burdens, making them vulnerable to high interest rates. This issue is being discussed among the G20 and is recognized as urgent.

▲ (Shin Hyun-song, Director of Research) Financial conditions are influenced by the global external environment, so macroeconomic policies alone are insufficient. There must be a philosophy of supplementing with other structural policies. Various methods exist, such as loan-to-value (LTV) ratios and debt service-to-income ratios. These are necessary for financial stability but can also prevent problems that might later hinder growth. Especially if household debt ratios relative to GDP are too high, consumption contracts, which can impede growth. Therefore, macroeconomic policies are needed not only for financial stability but also for economic stimulus.

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