Household debt management first

The Bank of Korea has raised the base rate to 1.0 percent to end the 20-month-long unprecedented loose monetary policy with the benchmark rate stuck in the zero territory. Last week’s hike did not upset the markets as had been forewarned. The central bank could not have sat longer on its ultra-loose policy when the inflation rate hovered over the mid-to long-term target of 2.0 percent as the consumer price index rose by an average 2.2 percent in the first 10 months of the year while household debt surged by 159 trillion won ($132 billion) over the same period.

Still, the repercussions cannot be small. Households and individuals who have resorted to cheap debt to invest in assets will face greater financing costs. The outstanding personal credit balance reached 1,844.9 trillion won as of September, larger than the GDP of 1,836 trillion won.

A central banks report in September estimated that a 25-basis-point raise in the base rate could increase interest payment expenses by 2.9 trillion won. Since the bank yanked up the overnight call rate target by 50 basis points, including the hike in August, household debt interest would increase by 5.8 trillion won from a year-ago period.

Market yields have shot up since the August hike, pushing bank mortgage rates to above 5 percent. The rates could go up to 6 percent with the base rate now at 1 percent. The pain for borrowers could be sharp.

The U.S. may also tighten The Korea Capital Market Institute projected the Korean central bank could make additional three increases next year to send the base rate at 1.75 percent. When increases are too steep, debt financing costs could become unbearable.

Although the Covid-19 crisis battered society, there had been many who benefited from the low interest rate, inflation and exchange rate. Now the wave has gone the opposite to high interest rate, inflation and dollar-won rate. Each household must shift to conservative financing management from leveraged investment. Authorities also must be delicate in policy navigation.

The Financial Services Commission and Financial Supervisory Service took verbal intervention upon a consumer outrage over competitive interest raises by banks after the August hike. The two financial authorities must take preemptive action to lessen the hardship on borrowers.