Debt Service Burden

Time to Prepare for Higher Interest Rates

South Korea is expected to shoulder an increasing debt service burden as national borrowing has risen sharply due to massive fiscal stimulus packages aimed at jumpstarting the recession-hit economy. On Monday, the Ministry of Strategy and Finance said the government would have to pay between 18.9 trillion won ($14.1 billion) and 19.5 trillion won ($14.8 billion) in interest on state debt next year. The sum is up from this year's estimated 15.7 trillion won.

It is no surprise that the interest payment is on the rise because of soaring national borrowing. According to the ministry, state debt will reach 366 trillion won in 2009, up from 308 trillion won in 2008, 298 trillion won in 2007, 282 trillion won in 2006 and 248 trillion won in 2005. The statistics show the debt has jumped 47 percent in four years. As a result, the interest payment climbed from 9.9 trillion won in 2005 to 13.3 trillion won in 2008. It can be inferred that the payment will double next year compared with the 2005 figure.

What's worrisome is that the interest burden may become heavier in coming years as there is a high possibility of interest rates going up. The Bank of Korea (BOK) had cut its key interest rate by a total of 3.25 percentage points to a record low of 2 percent since last October amid the unprecedented global and economic crisis. Against this backdrop, the average interest rate for state bonds now stands at 3.9 to 4 percent. However, the government may face a higher interest burden on its obligations in the coming years due to anticipated rate hikes.

Some critics warn that the burden might exceed 20 trillion won in 2010 if the BOK raises the interest rate by a greater margin than currently expected. They recommend that the government should take an ``exit strategy'' to reverse its expansionary fiscal and monetary policy in a move to tackle side effects of the economy-boosting measures.

On Friday, the BOK revised up its 2010 economic growth projection slightly to 3.6 percent. The central bank also forecast that the economy will shrink 1.6 percent this year, better than its earlier estimate of a 2.4-percent contraction. Of course, it is necessary to have guarded optimism as there are persistent downside risks. But policymakers are required to pay due attention to the fiscal health of the state.

Still preoccupied with economic stimulus, the government has no intention of changing its expansionary policy for the time being. Therefore, the state debt is likely to surpass 400 trillion won next year. The ratio of the debt over gross domestic product (GDP) will surge to 35.6 percent this year, compared with 30.1 percent in 2008.

What is the use of a growth recovery at the sacrifice of economic stability, which could bring about such problems as soaring inflation, a huge budget deficit and property bubbles? Now is the time for the nation to make efforts to reduce its debt and its debt service burden before it's too late. It is important to balance stimulus with stability in order to move toward sustainable growth.