By Na Jeong-ju
Staff Reporter
Credit default risks are growing for households and small firms due to rising interest rates and prolonged slump in the construction industry, analysts said Monday. They warned of a credit crunch similar to the U.S. subprime mortgage crisis.
Since early October, money market rates have been rising fast as banks have issued more bonds and certificates of deposit (CDs) to raise funds for loans. More issues of bonds against a weaker demand are fueling bond yields and boosting interest rates on mortgages.
Heavily-indebted households are seeing their interest costs surge due to the unstable bond market, but are having difficulty selling their homes due to weak demand. At the same time, higher interest rates are expected to strain financial conditions of small and medium companies.
``The instability in the bond market is a concern as it could lead to the Korean version of the subprime mortgage crisis,'' the Hyundai Research Institute said in a report.
The average interest rate on three-year government-issued bonds surged by 0.38 percentage points over the past two months. The rate reached 5.89 percent Friday, compared with 4.97 percent at the end of last year.
In addition, the interest rate on CDs, the benchmark rate for flexible-rate loans, has soared to the highest level in more than six years at 5.74 percent. Reflecting a rise in CD rates, banks have raised borrowing rates for loans.
The think tank said an outflow of funds from banks' deposit accounts and a steep rise in issuance of bonds and CDs by banks have caused a surge in money market rates. The situation may become worse in the coming months as banks have no other choice but to issue more to ease fund shortage problems, it said.
``Many households will suffer a credit crunch if interest rates continue to rise, and that is also the worse-case scenario for banks and the construction industry,'' the institute said. ``It's urgent to cut household debt to improve their financial structure.''
Construction firms are finding it increasingly difficult to sell apartments amid rising mortgage rates, heavier property taxes and tough lending rules. Banks have reduced loans to households and companies to ease default risks amid worries about a possible credit crunch.
According to the Ministry of Construction & Transportation, a total of 100,887 newly-built houses were left unsold as of the end of October, which is the highest level since Sept. 1995. The ministry forecast the figure will rise further as more people are reluctant to buy houses with loans.
In addition, some banks have stopped extending fresh loans.
On Friday, Woori Bank, the country's second largest lender, instructed its branches nationwide to apply tougher lending criteria for borrowers, a move that could lead to a further rise in borrowing rates. Early this year, Kookmin Bank, the largest lender, slashed reserves for fresh loans to small- and mid-sized enterprises.
``Some banks will be able to ease fund shortages by reducing loans to households and companies,'' said Ha Joon-kyung, a research fellow at the Korea Institute of Finance. ``However, things can turn worse for heavily indebted households and companies. They will find it more difficult to cover growing interest payments and will face greater default risks.''
Some analysts worry that the average mortgage delinquency rate at banks and other lending institutions may soar if households and firms fail to service their debts amid rising interest rates.
Mid-tier builders Shinil and Sejong have declared bankruptcy and, reports say, hundreds of firms based in the provinces are having financial difficulties due to sluggish home sales.
``Some builders have lowered the prices of new apartments to sell them as quickly as possible,'' an official from the Construction Association of Korea said. ``However, demand for homes is showing no signs of picking up amid strong anti-speculation measures and tougher lending standards at banks.''