South Korea’s household debt reached 1,344.3 trillion won (US$1.17 trillion) by the end of the last quarter of 2016. The country’s household debt increased steadily to surpass the 1,300 trillion won-mark for the first time, and the quarterly increase rate was the fastest since statistics began in 2002. On today’s program, we’ll discuss the looming threat of the growing household debt with Professor Choi Bae-geun (최배근) of the Department of Economics at Konkuk University.

The country’s household debt stands at 1,344.3 trillion won as of the end of last year. The pace of the growth is very fast, and the quality of the debt is worsening as well. The household debt increased by about 298 trillion won in 5 years during the Lee Myung-bak administration, but under the current Park Geun-hye government, it increased by 380.5 trillion won in just 4 years. In addition, the debt has been transferred to non-bank institutions because most government measures were centered around banks. Loans from non-monetary institutions such as savings banks, insurance companies and lenders have increased, while those who have difficulties getting loans are making more credit purchases. Such trends led to the so-called “balloon effect.”

Korea’s household debt is nearing a critical level in all aspects, including the amount, quality and rate of increase. The Bank of Korea’s data shows that household credit has been increasing at a growing speed. It rose by 55.2 trillion won in 2013, 66.3 trillion won in 2014, 117.8 trillion won in 2015, and by 141.2 trillion won in 2016. The loan’s quality is also worsening, especially since banks began to apply a stricter screening process in lending since February last year. In fact, the country’s household debt problem has been a source of concern for many years. But why does the problem continue to grow?

Korea’s economic growth rate notably worsened when deputy prime minister for economic affairs Choi Kyung-hwan (최경환) was in office under the Park Geun-hye government. The government tried to forcibly keep the real estate market afloat with policies that encouraged people to get loans to buy houses. As a result, household debt grew by 32 trillion won per quarter. In particular, debt linked to livelihood increased last year. This was due to the failed reforms of shipping and shipbuilding industries, as wells as the government’s failure to create new growth engines, manufacturing jobs and daily labor jobs. Also, households in the lowest 30% income bracket saw their income decrease, while on top of this, the cost of living also saw a big jump in the last half of 2016. The livelihood-based loans of the low-income bracket rose substantially due to such pressures.

The increasingly fast growth of household debt and the worsening debt quality are the results of the government’s moves to relax loan regulations and lower the interest rate with an aim to stimulate the economy by raising the real estate prices. Economic recession was added on top to further burden the already hard-hit low-income bracket. Each Korean individual is now 26 million won in debt, meaning that a 4-person household owes over 100 million won. The growing household debt is also putting a damper on the overall consumption.

When you look at the financial assets of Korean households, the growth of debt is 2.7 times faster than growth of income. In other words, income is not increasing at all. People are taking out more loans to survive and they end up spending about 27% of their income in debt repayment. They spend about 10.7 million won in debt repayment per year. Seventy percent of households with loans say that debt repayment is a huge burden for them. In a nutshell, they have no money to spend.

The reality is, Koreans’ income is at a standstill if not in decline, while their debt continues to snowball. With Koreans spending 26.6% of their disposable income on debt repayment, they have no choice but to reduce their consumption. But the shrinking consumption means more than just decreased spending.

People are spending less money because they have to repay their debts, leading to businesses reducing their production and employment. Household income shrinks and results in further reduced consumption, which in turn causes an economic recession. The vicious cycle is already in place. The country’s manufacturing sector is seeing reverse growth and its exports are slowing. If the household debt or the real estate market suffers a hard landing on top of this, it would lead to insolvencies of the household and finance sectors. In such a case, we may not be able to prevent negative growth.

When households burdened with debt refrain from spending, businesses cannot expand their investments and eventually employment decreases, resulting in a vicious cycle where the domestic market further freezes up. This is why household debt is considered the detonator that could send shocks throughout the entire Korean economy. With an aim to solve this serious problem, the government unveiled policy initiatives to stimulate domestic demand on February 23. However, the government’s aim to increase spending by securing more leisure time with measures such as shortened office hours on Fridays and discounts for the KTX service are not a fundamental solution.

I believe the best solution would be to provide a lot of good jobs. But since it may not be easy to achieve this in the short-term, efforts to relieve the household debt problem should focus on three major points. First, when people fail to repay their debts, most of the times they end up becoming credit delinquents and resort to relying on lenders. The government should find a way to help them recover their credit. Secondly, the Bank of Korea supports policy finances of small and medium sized enterprises with very little interest. Such measures should be applied to households as well. Lastly, there are households with housing-secured loans who are unable to repay their debt. When these households fail to repay their loans, their houses make it onto the real estate market, which could lead to the market’s hard landing. In order to prevent this, the Bank of Korea should invest in Housing Finance Corporation to transfer such houses to long-term public rental housing. This would block the houses from getting on to the market, and also return some money to the households as well.

In order to cut the vicious cycle of household debt, the burden should be reduced and the system must be improved. In addition, long-term policies designed to increase employment and income are needed. The household debt must not increase any further. The government should do its best to manage the situation in a multifaceted fashion.