Sunshine Loan headache for policymakers

By Kang Seung-woo

Since the Sunshine Loan program made its debt on July 26, many low-income individuals have taken advantage of the low-interest lending program initiated by the government to help those with poor credit ratings.

However, more than one month after its introduction, policymakers are facing a dilemma in tackling the side effects of the soft loan program, such as high-income earners taking out such loans by using loopholes and the rising moral hazards among lenders.

The financial regulator has stepped up efforts to tighten lending rules in order to prevent those with a high income but a poor credit rating from being granted such loans, which are intended to help those in need.

According to the Financial Services Commission (FSC), 72,347 borrowers took out 647.1 billion won ($552.62 million) in Sunshine Loans as of Sept. 6.

Despite its “successful” soft landing, the subsidized lending program still has several stumbling blocks to overcome en route to helping people often denied by local commercial banks and forced to borrow at usurious rates of up to 44 percent from private money lenders.

There are rising concerns over its early exhaustion, while it is slammed for its loose criteria. The possibility of moral hazards in issuing the loans and the exclusion of the lowest credit rankers are also seen as something to hammer out.

In the wake of the global financial crisis, low-income households were cornered due to financial companies’ concentration on equity investment and project financing and they increasingly had to rely on loan sharks.

As a result, the Korean government launched the five-year loan program worth 10 trillion won on July 26 as part of efforts to support low-income families.

Individuals whose credit rating is between six and 10 on a scale of one to 10, with one being best, or earn an annual income of less than 20 million won can apply for loans of up to 50 million won to start businesses, 20 million won to provide operating capital for a business or 10 million won to support urgently needed living expenses. The average interest stood at 10.20 percent during its first month, the financial regulator said.

The growing popularity has put the lending program in jeopardy of running out of funds much sooner than expected.

After logging 310 million won on the first day, it surpassed 10 billion won in nine days and 31.51 billion won was taken out on July 31, a daily-record amount.

According to the FSC, two trillion won was set aside for the maiden year that ends on July 25 2011, but the loans extended have already surpassed 600 billion won, more than a quarter, so it is on pace to distribute all of the allocated money by November or December of this year.

The FSC said that it is too early to worry about the loans being exhausted.

“As it is in the early phase, many people flocked to the loans,” an official of the FSC said in a briefing Wednesday. According to him, the daily loans averaged 24 billion in the seventh week, down 4.6 billion won from two weeks earlier.

“But since the sixth week of its introduction, the growth rate has slowed down.”

He added that despite the concerns, the FSC is not considering securing additional financial resources for the lending.

The Sunshine Loan’s buzz is in stark contrast to another government-supported unsecured loan program, Smile Microcredit Bank (SMB), as SMB amounted to 40.7 billion won as of Sept. 6.

The Sunshine Loans are backed by commercial financial firms, such as local savings banks and cooperative lenders, while SMB is financed by large corporations like Samsung and POSCO.

The much faster growth of the Sunshine Loans than other programs is due to its loose requirements, which has been hit hard since its inception. For Sunshine Loans, anyone who can meet either of the aforementioned criteria can be granted loans.

“High-income workers with poor credit ratings, who are familiar with finance, come to take advantage of the program,” said an official of the National Agricultural Cooperative Federation (Nonghyup), which offers the service.

The loans are guaranteed by the Korea Federation of Credit Guarantee Foundations (KOREG) and 16 regional credit guarantee foundations. They are to provide an 85 percent guarantee for the loans, while financial institutions are accountable for the remaining 15 percent.

As a result, the financial authorities are worried about the potential moral hazard related with the microcredit loans because financial institutions might extend excessive loans on the belief that they would be bailed out by the government.

In addition, people tend to recklessly rush to take out the loans because of the low interest.

“I saw people not worrying about repayments too seriously due to the low interest and the guarantee system,” said a Sunshine Loan subscriber, who declined to be named.

According to the FSC, those who borrowed the money with credit ratings of nine or 10 account for just 4 percent of the total lending, while 71 percent of the loans went to people sitting between the sixth and eighth grades.

The low percentage of their involvement has resulted in resorting to private money lender again and the regulator’s plan to drive down the interest rate has hit a snag.

“Despite the launch of the Sunshine program, the number of people inquiring about loans at savings banks were not affected seriously because the credit line for lending to support urgently needed living expenses is up to 10 million won,” an official at a savings bank said.

Tightening rules

The FSC came up with tighter lending criteria on Sept. 8.

Under the new rules, those who have a credit rating of six or below but earn more than 40 million won per year will have no access to the Sunshine Loan program.

The FSC also introduced restrictions to only allow borrowers seeking the Sunshine Loans at banks in their residential area or adjoining one.

The officials will also increase on-site inspections to prevent financial firms extending an excessive amount loans.