Hole in won

THE Asian financial crisis of 1997 hit Mr Lee hard. His interior-design firm folded and he was officially branded a bad debtor. But the ensuing boom in household credit hit him harder. As banks were newly deterred from lending to businesses, they turned to individuals instead. Credit cards were peddled everywhere, on televisions and from street corners, and to everyone—including Mrs Lee. She racked up a debt of 7m won ($6,900), much of it interest owed. When she divorced him, Mr Lee, jobless, was left to foot the bill.

South Korea’s economic growth-spurt was built on the massive debt of its chaebol, huge industrial conglomerates. Now mounting household debt threatens to stunt it. It exceeded 1 quadrillion (1,000 trillion) won for the first time last year. And it is rising much faster than both the country’s GDP and its average household income: in 2012 household debt was 1.6 times that of Koreans’ annual disposable income, compared with an average of 1.3 for the OECD, a group of rich countries. Whereas affluent consumers globally have shed debt since the 2008 financial crisis, South Korea’s pile has steadily grown.

Part of the reason is that the crisis merely ruffled South Korea, so subsequent belt-tightening was limited. Piecemeal restrictions put on banks, including lower debt-to-income limits for their clients, opened the door for energetic competition from non-bank rivals. Loans from credit-card companies, mutual savings groups and insurers are growing faster than lending by big banks. In 2013 they accounted for 540 trillion won, over half of total household debt—a record high.

Regulators have cottoned on, and are trying to curb frothy lending by non-banks. In 2012 co-operatives were made to lower their loan-to-deposit ratios to 80% (banks’ ratios hover around 97%). Insurers were restricted from excessive advertising for household-loan products. The maximum interest rate non-banks can charge has been cut from 39% annually to 35%. That may be encouraging a black market for loans to the least creditworthy.

Now a new debt-relief programme aims to bring these low-credit, low-income households back into the banking fold. The state-run National Happiness Fund (NHF), set up in March 2013, waived Mr Lee’s hefty interest and half of his debt’s principal. He is now paying back the other half, at a low rate, over the next decade. His diligence thus far has allowed him to open his first bank account in 17 years.

The fund, worth up to 18 trillion won, has helped 249,000 others waive half of their debts in the year since it was set up. It buys loans worth less than 100m won that are more than six months in arrears from financial institutions, and writes off up to 70% of the principal. Another 48,000 debtors received “Dream Loans”, which switch high interest rates to lower ones. The most conscientious can borrow up to 10m won at rates which banks would offer only to the more creditworthy.

The NHF has focused on alleviating the plight of the poor. Yet the well-off still hold most of the country’s debt. Their main obstacle to credit is a restriction on mortgage loans, which cannot surpass half of a property’s value in South Korea. Even so, housing loans make up half of middle-income household debt. More homeowners are resorting to freer credit from non-banks, or using them as a stopgap when interest rates fluctuate (almost all home loans are variable). This has drained money that would once have been squirrelled away for a rainy day, or retirement. South Korea’s household savings rate has plunged from 19% in 1988 to 4% in 2012, among the lowest in the OECD. Yet Korea’s pension funds are small and social-welfare benefits limited.

Loan repayments gobble up a quarter of a middle class family’s income. Including mortgages, over half of these households could be considered in deficit, paying out more in expenses than they pay in, up from 15% in 1990, according to the McKinsey Global Institute. As house prices sag in the capital, Koreans’ personal finances are coming under strain. The government is now explicitly seeking to reduce household debt. For that it will need to tackle not only acute debt, but the chronic sort too.