Zero interest rates… Populism to increase pain

The Bank of Korea held the Monetary Policy Committee meeting on the 25th and raised the base rate by 0.25%p from 0.75%. It is the first time in one year and eight months since March last year that the base rate has risen to the 1% level. At that time, the BOK lowered the base interest rate from 1.25% to 0.75% per annum to absorb the economic shock caused by the spread of COVID-19, and has remained in the 0% range since then. As the era of low interest rates in the ‘0% range’ came to an end, early winter came to ‘the grasshopper’.

This rate hike was foretold. The reason for the interest rate hike is a financial imbalance caused by a surge in household debt and a surge in asset prices such as real estate. According to the Bank of Korea, the balance of household credit at the end of the third quarter stood at 1844.9 trillion won, up 36.7 trillion won from the previous quarter. Although the rate of increase decreased from the second quarter (43.5 trillion won) in the aftermath of loan regulations, it increased by 10% (159 trillion won) from a year ago and is still growing at a rapid pace. In particular, the balance of mortgage loans increased by 20.8 trillion won from the end of the previous quarter, and the increase was larger than the second quarter (17.3 trillion won).

Raising the benchmark interest rate will raise the market interest rate sequentially. As the base rate rose, the demand for an interest rate increase from bank depositors, who had suffered from low interest rates, became visible. The COFIX (Funding Cost Index) is the ‘weighted average interest rate’ of funds raised by eight major banks, including Kookmin and Shinhan. The increase in deposit interest rates is an increase in ‘financing costs’ for banks. The interest rate on ‘3-year bank bonds’, another financing route for banks, also surged to 2.18%, up 0.5%p from 1.65% three months ago. Compared to six months ago (1.32%), it rose by 0.9 percentage points.

The interest rates on 3-year and 6-month bank bonds are used as the benchmark interest rate for home mortgage loans and the benchmark interest rate for credit loans, respectively. Cofix is ​​announced once in the middle of every month, and if this is reflected, interest rates on main collateral and credit loans are expected to rise one after another in January next year. The main collateral and loan interest rates stood at 4.26% and 3.26%, respectively, on the basis of new transactions in October. If the ‘financing cost index’ to be revised and disclosed is reflected, the main collateral interest rate may be set at 6.0%. If you borrow 300 million won with a 20-year maturity, it is estimated that you will have to pay an additional 1.8 million won in principal and interest per year due to a 1% increase in interest rates.

The problem is in the future. If the US becomes visible tapering, the global supply chain bottleneck becomes longer than expected, international oil and raw material prices continue to rise, and global inflationary pressures increase, the base rate will inevitably increase further. The Bank of Korea has also predicted an additional rate hike next year. If lending rates continue to rise, the ‘powder store’ could explode. They are the so-called ‘vulnerable borrowers’. The increase in loan interest rates is fatal for ‘multi-debtors’ borrowing from three or more financial companies, low-income earners in the bottom 30% of income, low-credit ratings, and ‘young debt-tuning’ people.

Populism in politics is also an ambush. Government bonds cannot be issued with a fixed interest rate on government bonds. The fact that the interest rate of the ‘3-year government bond’, which serves as the market’s representative interest rate, fell to ‘2.103%’ on October 29 is also not unrelated to Candidate Jae-myung Lee’s claim to pay disaster aid.

The iron rule of economics is that ‘there is nothing free in the world’. You cannot make rice cakes with stones, and there is no winter without winter. Reality is cruel. Shouldn’t be more lax.