Korean banks to stay strong amidst rising debt

Fitch says non-bank financial institutions will likely be more affected by it.

Korean banks are well-positioned to withstand the immediate challenges of both rising domestic household debt and lack of foreign currency liquidity. These were some of the issues discussed at Fitch's Global Banking Conference in Seoul on 20 June 2011, according to Fitch Ratings’ report.

The conference also highlighted a longer-term threat of Korea's vulnerability to a fall in Chinese demand and the indirect impact this may have on Korea banks.

Fitch said the debt servicing ability of the bottom 10% income bracket is at such low levels that their average income is insufficient to service the principal. Nevertheless, Fitch currently believes this is more likely to affect certain non-bank financial institutions such as credit unions than on banks, whose household exposures are deemed by the agency to be manageable at the present stage. The banks have been much more conservative than non-bank FIs in terms of loan growth, target clients, and product types. One-day overdue household loans have been under 1% of the banks' total loans since 2005 (0.65% in April 2011).

Fitch also pointed out at the conference that increases in the banks' NPLs peaked in mid-2010 although weak sectors such as property development, shipping, shipbuilding, and SMEs remain a source of risk. However, Fitch believes that the banks in general have adequate capital and loan loss reserves to absorb potential losses in times of stress.

Fitch acknowledged that the banks' ratings will continue to be constrained by lack of foreign currency retail deposits although their liquidity position has improved quantitatively and qualitatively. Also discussed at the conference was the potential for privatisation and consolidation and its likely impact on competition, which in turn may lead to deterioration in asset qualtiy. However any meaningful privatisation is not expected to occur until after the Presidential elections in late 2012.

Over the long-term, Fitch said that with Chinese demand representing 25% of Korea's total exports in 2010 the Korean economy is vulnerable to a decline in Chinese demand. This, together with a risk of inflationary pressures spilling over from China to Korea, could have significant knock-on effects on the economy and the banks.