ed Ban on debt guarantee
Time to set up better credit survey system
The Financial Services Commission (FSC) has decided to impose a ban on joint guarantee on loans from next year. The decision is belated but welcome. A debt guarantee is an outdated practice which requires a borrower to have a third party stand as joint surety for a bank loan.
The FSC has already outlawed the practice for individual borrowers. But lenders still demand that corporations, especially smaller businesses, should submit third-party loan guarantees when they borrow. Such guarantees often cause a chain reaction of bankruptcy for guarantee providers when borrowers are unable to repay the debt.
Third-party debt guarantees should no longer find their place in a credit-based modern society. It is absurd for banks and other lenders to pluck the fruit of interest payments, while forcing third parties to take the credit risks. This practice has only benefited financial institutions, allowing them to be free from loan losses.
Such an expedient method has also blocked lenders from developing a more sophisticated credit appraisal system. It has served as a stumbling block to an advanced credit society. Individuals and businesses alike should borrow within their credit capacity. As such, lenders are required to extend loans based on well-developed credit evaluation. That is, financial institutions must enhance their credit risk evaluation capabilities.
No doubt, the FSC’s decision is designed to allow small- and medium-sized companies to have easier access to bank loans. In fact, smaller firms, especially venture start-ups, have little to offer as collateral. They have only innovative technologies or novel ideas that could be turned into commercialization with the help of investors and lenders.
The ban, however, will not automatically promise its success. First, lenders may refrain from providing loans to smaller enterprises due to their lack of creditworthiness. It is necessary for lenders to introduce a new loan extension system with an effective method for credit analysis and risk management. They have to employ those who specialize in estimating firms’ technology potential and their project feasibility.
A recent survey shows that 61 percent of loan officers cited the appraisal of borrowers’ project feasibility as one of the most serious challenges they face. And 39 percent complained about a lack of credit information.
The finding demonstrates that the nation has many obstacles to make third-party loan guarantees obsolete. But, it would be better for regulators, bankers and borrowers to make joint efforts to rid such obstacles as quickly as possible. Lenders should no longer bind borrowers’ family members, friends and other third parties in fetters of loan guarantees.
We hope that the FSC strives to put action before words to make sure that the ban will be smoothly enforced. Small medium enterprises should be the backbone of Korea Inc. The ban should be a starting point in eliminating all types of discrimination against those firms.