South Korea is grappling with the weight of high household debt, prompting increasing concern among economists and policymakers alike. With the country’s unique rental system adding to the financial burden, the Bank of Korea (BOK) has found itself on the frontline of addressing this growing crisis.
Household debt has become a frequent topic of discussion during BOK's monetary policy decisions, as evidenced by Governor Rhee Chang Yong's remarks on January 2, where he stated, "There has been some criticism...when deciding the Base Rate." Such comments have raised questions about why household debt figures so prominently in the BOK’s calculations, reflecting underlying economic fears.
The crux of the issue lies within the South Korean rental market. Unlike most other countries, renters pay what is called "jeonse" or "key money," which constitutes about 50%-80% of the property’s market value as a deposit instead of monthly rent. At the end of the rental period, this deposit is returned to the tenants. This system, as explained by Samuel Rhee, co-founder of Endowus, means landlords are effectively receiving interest-free loans for their investments—the downside being renters often take out loans to afford these sizeable deposits.
Rhee identified this approach as contributing significantly to the overall household debt issue, causing "a lot of burden and excess debt... for housing." Even though South Korea's household debt to GDP ratio has remained relatively stable, with statistics showing it around 91% as of the second quarter of 2024, rising interest rates have now compounded the problem, making it more challenging for households to manage their debts.
Comparatively speaking, South Korea’s debt burden stands out starkly against other advanced economies; the typical household debt to GDP ratio across such nations sits at approximately 68.9%. The International Monetary Fund substantiates this discrepancy, indicating South Korea holds the highest record of household debt to GDP ratio among Asian countries at 93.54% as of 2023.
The remarkable aspect here is the growing debt relative to disposable income. Ryota Abe from Sumitomo Mitsui Banking Corporation revealed alarming statistics, indicating the ratio of debt to net disposable income has surged from 130% in 2008 to 186% by 2023. This rapid leap suggests the people of South Korea are becoming increasingly reliant on debt to maintain their financial stability, as their wages and GDP have not increased at the same pace.
With such high levels of household debt, economists warn of detrimental consequences if many borrowers eventually default on their loans. Abe cautioned, "...the issue will bring deflationary pressures as well as economic recession," should the debt crisis unravel. This sentiment is echoed by Park Jeongwoo from Nomura, who pointed out how the BOK's concerns are not just theoretical but based upon solid evidence of weakened household spending power and distorted capital allocation due to excessive debt financing.
The BOK's options to mitigate these issues complicate the situation even more. Though there is the pressing need to spur consumption and economic growth through interest rate cuts, such measures could lead to depreciations of the won and heighten the risk for imported inflation. If lower interest rates lead to increased housing demand, the resulting surge could destabilize home prices and perpetuate the inflationary trends which the BOK aims to manage.
Given these competing pressures, some economists observed early signs of hope. Alex Holmes, research director for Asia at the Economist Intelligence Unit noted the year's statistics showed 2024 marked the first time household debt as a percentage of GDP decreased, and this development may present the BOK with enough breathing room to make cautious changes without exacerbation of the situation.
Clearly, the situation warrants close watch, as South Korea continues to navigate this precarious balance of combating rising household debt, managing inflation, and steering its economy through uncertain waters.