Measures urged to prevent liabilities from holding back growth


Encouraging Koreans to have confidence in their economy’s ability to cope with global fiscal crises in his radio address Monday, President Lee Myung-bak listed a set of factors backing his argument, including the national debt being kept at a low level. The government debt accounts for about 33 percent of the country’s gross domestic product, only a third of the average 98 percent for members of the Organization for Economic Cooperation and Development, Lee said.

In a nationally televised dialogue with professors and anchorpersons last month, he also gave assurances about the manageability of soaring household debt. He said household loans might require stricter management but they had “not yet reached a dangerous level.”

His views, however, appear not to be fully agreed upon by financial experts here. They note that Lee’s arguments may not be a due assessment of the country’s debt problem, which should be taken more seriously. Some say it is concerning that debt is continuing to rise across all economic sectors in Korea, whereas debts are being paid down in other developed countries in an era of austerity.

“It should be noted that debt has been increasing without being moderated since the 2008 economic crisis,” said Lee Eun-mi, research fellow at the Samsung Economic Research Institute.

A day before Lee’s radio address, a government report estimated the national debt will rise from last year’s level of 392.2 trillion won ($325.3 billion) to 422.7 trillion won this year and 448.2 trillion won next year before the pace of growth begins to slow in 2013, when state debt is forecast to stand at 460 trillion won. The report by the Strategy and Finance Ministry also said the outstanding amount of government-guaranteed debt is expected to reach a record high of 38 trillion won in 2012.

The national debt nearly tripled over the past decade, exceeding the 300 trillion won mark in 2008. The ratio of government debt to gross domestic product remains far below the OECD average as Lee said, but experts indicate it increased at the fastest rate among member nations from 18.6 percent in 2002 to 33.4 percent last year.

According to the ministry report, the ratio is projected to inch down to 33.3 percent this year and further decline to 32.8 percent in 2012, 31.3 percent in 2013 and 29.6 percent in 2014, with economic growth outpacing the increase in state debt. Ministry officials pledged to strengthen efforts to curb national debt by eliminating tax breaks, selling state assets and overhauling government expenditures.

While some foreign commentators gave positive evaluations of the government’s efforts to reduce fiscal deficit, local analysts have remained more cautious. Under the budget plan for 2012, announced by the Finance Ministry last month, the fiscal deficit will shrink to 14.3 trillion won, or 1 percent of the GDP, from 25 trillion won this year.

A recent report from Hyundai Research Institute, a private economic think tank, noted the budget proposal was based on a rosy prospect for tax revenue increase. The report said it is too optimistic to assume that tax revenue will increase at an annual rate of 9.5 percent next year, considering growth potential is likely to be reduced amid adverse economic conditions at home and abroad. Private institutes, including Hyundai, have estimated next year’s growth rate will hit within the range of 3.6 percent to 4 percent, far below the government’s prediction of 4.5 percent.

Kim Dong-yul, senior research fellow at Hyundai, said the country’s long-term fiscal stability is exposed to three potential threats: increasing national debt, rising welfare demand and the aging population.

Growing size

Even though national debt is some notches below an alarming level, experts say the size of debt to be shouldered by the government will in effect swell, counting money indebted by public corporations and unfunded liabilities, including spending commitments in health insurance, national pension and other social security programs. According to Rep. Lee Hahn-koo of the ruling Grand National Party, government debt, in a broad sense, amounted to 1,848 trillion won in 2010, up from 1,637 trillion won the previous year.

The rapid build-up of debt owed by public enterprises and local governments is emerging as another potential threat to fiscal stability. Public corporations’ debt climbed 2.4 times over the past decade to 487 trillion won last year, according to figures from the Bank of Korea. A report from the Korea Development Institute showed the debt to capital ratio of the six largest public companies, measured by assets, nearly doubled from 106.3 percent in 2004 to 196.8 percent in 2009.

Local governments and provincial public firms accumulated 75.4 trillion won in debt in 2010, up 10.6 percent from the previous year, showed statistics from the Public Administration and Security. Experts estimate the figure to exceed 100 trillion won by 2013. On the contrary, the average ratio of financial independence for 244 local governments declined from 65 percent in 1991 to 54.4 percent in 2006, 53.9 percent in 2008 and 52.2 percent in 2010.

Turning a blind eye to the heaping debt, more than 30 percent of local councils are pushing to increase the payment for their members in the face of criticism from residents and civic groups.

The most immediate and largest concern for financial officials and analysts is the ballooning household debt that may be reaching or exceeding its limit.

Household debt, which stood at 595.4 trillion won in 2007, increased to 826 trillion won, nearly three times the size of this year’s budget, as of the end of June, according to central bank figures. It increased by an annual average of 13 percent over the past decade, outstripping the average economic growth rate of 7.3 percent.

Biggest concern

The ratio of household debt to disposable income rose from 136.4 percent in 2007 to 155.4 percent last year, the highest figure since the central bank began compiling data in 2002. Last year’s ratio is above the 137.6 percent figure for the U.S. in 2007, before the subprime mortgage crisis hit its financial market, plunging the global economy into recession. It also exceeded the 2010 OECD average of 138 percent.

Household debt in Korea accounted for 86 percent of the GDP last year, compared to the OECD average of 77 percent, with a household paying an average 889,000 won in interest annually. Many financial experts express concerns that Korean households have continued to take out loans, while households in foreign countries reduced their credit. Household loans in Korea have increased by 32 percent over the years since 2007, while the figures decreased by 3.4 percent in the U.S., 6.8 percent in Japan and 0.6 percent in Germany.

Alarmed by the steep increase, financial authorities have put forward a series of regulatory measures. In the latest move, they advised commercial banks in August to curb the rate of monthly growth in household loans within 0.6 percent. The measure helped reduce household loans from banks, but led to a steep increase in credit from non-bank lenders.

Rep. Lee Yong-sup of the main opposition Democratic Party, who sits on the parliamentary finance committee, said interest payments on household debt increased from 15 trillion won in 2004 to 45 trillion won in 2010. He noted excessive household debt could undermine economic growth by contracting domestic consumption and savings.

Behind the steep rise in household debt, experts say, were low interest rates coupled with a rise in home prices. It paid off to borrow money to buy a home, they note.

Apartment prices in Seoul increased by an annual average of 8.8 percent from 2004 to 2008 while interest rates were kept below the 5 percent level. According to central bank statistics, households borrowed a total of 126 trillion won from banks from 2005-10 and spent 75 percent of the sum to purchase or rent a house.

“Until now, household debt problem has not been spotlighted despite its rapid growth because interest rates still remain low and asset prices have not fallen,” said Lee of the Samsung Economic Research Institute.

“But there is the possibility that the danger of household credit will go above the surface if interest rates rise and asset values are reduced,” she said.

A report from the institute estimated households would have to pay 4.5 trillion won more annually to service their debt if rates increase at an average 2 percent, leaving many unable to make repayment.

Financial regulators have urged the central bank to take measures on their part to put a brake on the increase in household loans. But central bankers froze the benchmark interest rate for the third straight month in September, reflecting concerns that an interest rate hike will result in dampening household consumption, further slowing down the economy.

Some say the central bank will be cornered into increasing interest rates as consumer prices are increasing at a steep pace, but most experts including foreign bankers here see little possibility of monetary policymakers moving to cut the rate in the near future.

In tandem with debt increase, the country’s savings rate, which topped the list of OECD members until early 2010, has also plummeted. The ratio of savings to disposable income in Korean households, which reached 24 percent in 1987, declined to 16.1 percent in 1997, 5.2 percent in 2001 and 2.8 percent in 2010, according to OECD statistics. The 2010 figure, fifth from the bottom out of the 20 countries surveyed, was far below the 5.7 percent for the U.S. and the OECD average of 6.1 percent.

A recent SERI report attributed the decrease in savings to a slowing growth in wages, an increase in the burden of paying for social security programs such as national pension and the aging population.

GNP lawmaker Lee, a member of the parliamentary finance committee, put forward a more stunning picture of the country’s debt problem. Based on data collected from the Finance Ministry and the Bank of Korea, he estimated that Korea’s three major economic entities ― the public sector, households and corporations ― have accumulated a whopping 3,283 trillion won in financial debt, which refers to a sum minus stock and other direct investments from total debt, as of the end of June. Financial debt loans shouldered by the sectors increased from 2,401 trillion won in 2007 to 2,809 trillion won in 2008, 2,962 trillion won in 2009 and 3,156 trillion won in 2010. The public sector saw its financial debt soar 65.9 percent from 2007 to the end of June this year, with the government and public corporations incurring 418.9 trillion won and 353 trillion won, respectively. The figure for the private sector stood at 1,460 trillion won as of end-June, up 28.1 percent from 2007. Individual financial loans rose from 795 trillion won to 1,050 trillion won over the cited period.

Loss of political initiatives

Jun Sung-in, professor of economics at Hongik University, criticized the Lee administration for increasing public sector debts by pushing for conflicting policies to expand tax breaks, while spending money on various infrastructure projects including the four-river restoration. As measures to reduce debt, he proposed hiking interest rates and taxes. “There can be no such methods to curb debt without interest rate hikes,” he said.

Initiatives by political leaders are needed more than ever to coordinate the complicated mix of policies to handle the debt problem, experts note. But they concede that with parliamentary and presidential elections set for next year, such leadership may not be expected from leaders of both the ruling and opposition parties.

The rival parties have already been competing to come up with a flood of welfare measures to gain an upper hand in the run-up to the key elections, the results of which will set the political landscape for the coming years. The main opposition DP recently put forward a plan to finance its “universal” welfare package, including free medical care, free school meals and free nursing of children as well as halving college tuition fees, which is estimated to cost 33 trillion won per year. According to the plan, the expenditure is to be covered with 12.3 trillion won saved from trimming state-funded projects, 6.4 trillion won from improving the efficiency of social safety networks and the largest proportion of 14.3 trillion won from revenues to be raised from the scrapping of the tax cut scheme.

GNP officials have also tried to court voters’ support with welfare measures forecast to cost trillions of won. The ruling party is becoming aggressive in expanding welfare programs in an apparent move to support its potential presidential frontrunner Rep. Park Geun-hye.

Expressing worries that the moves by political circles will result in debt snowballing, a local daily insisted in an editorial Tuesday that the country should consider revising the Constitution or fiscal laws to oblige the government to achieve a balanced budget.

By Kim Kyung-ho (khkim@heraldcorp.com)