Fixed Rate and Amortizing Loans

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Household debt has been one of the big concerns in Korea’s economy. It accounted for 91.9% of GDP and 163% of the disposable income in 2012. As of the end of 2013, Korea’s household debt amounted to KRW 1,021 trillion. The Korean government has been taking a series of measures so far to improve the quality of household loan and to rein in the pace of household debt growth.

As the result, the government significantly lowered a possibility that household debt issue might be worsened into a systemic risk. Household debt has increased 6% from the last year though the gab between household debt growth and nominal GDP growth has narrowed compared to last year’s gab, from 2.2% to 2.0%. Also the pace of household debt growth has slowed down since 2011.

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However, Korea’s household debt level is still high compared to the OECD average of 134.8 (household debt/disposable income, 2012).

The FSC and relevant ministries had a joint briefing on February 27th and announced a package of measures to improve structural soundness of household debt. The government considers managing household debt level as a key point to realize President Park’s three year plan for economic innovation. Among the measures, fixed-rate and amortizing loans is the core tool to solve the debt problem.

The mortgage loans account for 52% of Korea’s household debt. So, if you want to loosen the level of household debt, you should restructure the mortgage. Now, 69% of households only repay interest to the banks and 84% borrow money as floating rate. Floating-rate and interest-only loans deepen economic instability. That is the reason why the government set the target to increase the proportion for fixed-rate and amortizing loans in housing mortgage loans to 40% until 2017 from 15.9% and 18.7 % respectively.

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From now on if you borrow money from a bank through fixed-rate and amortizing loan, your maximum amount of income tax deduction expands from KRW 15 million to 18 million. The government also plans to give the tax benefit to borrowers who have the maturity from 10 to 15 years from 2015. (The tax benefit is granted only when the loan is over 15-year-maturity at present.) The government expects that the expansion of tax benefit has the same effect to decrease the fixed rate about 0.4% point. It can attract borrowers to fixed-rate loans from floating rate loans which provide lower interest rates than fixed-rate loans do.

Above all, fixed-rate and amortizing loans can spread out the maturity structure of household dept over long-term period.

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If you compare the maturity structures of graph1 and graph2, you can find the maturity structures from graph2 is much flatter. It means that instability from the household debt issue will ease off under the fixed-rate and amortizing loan. Of course, it protects the households who repay their debt from the risk which could be caused by business cycle and relieves repayment burden. Then, wish fixed-rate and amortizing loans say mission accomplished!

Yeon Hee Kim

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