Minimize the moral hazard problem

The government held a hearing on the so-called “New Beginning Fund” for financial institutions. The fund, earmarked at 30 trillion won ($22 billion), will serve as a type of a bad bank assuming insolvent debt of the self-employed whose business ran into trouble from social restrictions from Covid-19.

The fund will help lower the interest rate for borrowers who have been behind debt obligation for less than 90 days and write off 60 to 90 percent of the principal for borrowers behind their dues for more than 90 days. The arrangement has raised questions of fairness against borrowers who have faithfully complied with their debt obligations despite difficulties.

The government explained that the fund will be arranged just like existing debt restructuring system, although in slightly more favorable terms thanks to public funding. In fact, the write-off will be restricted to the debt of lengthy delinquents. So, borrowers with sufficient income and assets are not eligible. Collateralized debt cannot be written off even if their dues are late for more than 90 days.

Still, there is room for moral hazard. The principle of debt restructuring is to ease the interest rate burden and extend maturity to give more leeway for late debtors to pay off their dues, while reducing the principal for those behind payments for more than 90 days due to their lack of means to stay afloat. Moral questions have arisen because current existing credit recovery programs have not been sufficiently employed. Less than 30 percent of debt delinquents with an average deferment period of 42 months have used the program.

There is golden timing in credit rehabilitation, too. But seven out of 10 have not been able to seek debt restructuring, and those who have resorted to it often turned too late. The government could have avoided the moral hazard issue if debt-stricken people had known that there was already a way out.

Banks must become more proactive in resolving the mounting debt of the self-employed. KB, Shinhan, Hana and Woori Financial Groups have earned a combined 9 trillion won in net profit in the first half. It is not because they performed well. Instead, they benefited from government regulations on household debt and a rise in interest rates. Bank employees earn more than 100 million won on average a year, yet financial unions demand a wage hike of 6.1 percent and even the 35-hour workweek. Who would sympathize with the banks? They must play more social roles than before.

The government must find reasonable guidelines on the debtors eligible for the write-offs and the level of interest rate relief so as not to cause more controversy.