The trap of variable rate loans

The authorities must focus more on improving the quality of household loans, including the conversion of variable rate loans to fixed rate ones.

AHN HYO-SEONGThe author is a stock market news reporter of the JoongAng Ilbo. The booming U.S. economy is a concern for the Korean economy. Bond interest rates are soaring due to concerns about prolonged tightening in the United States, while the Korean won is falling due to a strong dollar. The U.S. economy is still strong thanks to resilient spending despite high interest rates.

In a recent article titled “What Fed Hikes?” the Wall Street Journal (WSJ) singled out the high ratio of fixed-rate loans as the driving force of U.S. private consumption. In the first quarter, 89 percent of U.S. household debts were fixed-rate loans. As most citizens borrowed money with fixed rate loans at 2 to 4 percent, they are not affected by the rate hike. Moreover, regular savings and money market funds offer 5 percent annual interest. Some people say they can work less and travel more thanks to the low mortgage rate.

It could pose a dilemma for the Fed in its battle against inflation, but Korea is envious as it has to worry about borrowers’ agony whenever interest rates go up. According to the Bank of Korea (BOK), 74 percent of the total household loans are at variable rates as of the end of June. The share has decreased from 78.7 percent a year ago, but it is still high.

Since 2011, financial authorities have also started to promote fixed rate loans to improve the qualitative structure of household debts, but the measure was not successful. Authorities were more interested in real estate — and it was easier for the banks to lend at variable rates to pass the risk onto the borrowers.

In 2020, when household loans increased exponentially, financial authorities were indifferent to the qualitative improvement — such as expanding the share of fixed rate loans — as they were bent on tightening loans to control soaring housing prices.

The special housing loan — which began earlier this year to increase fixed-rate loans — was labeled the “loan for high income earners” and “the main culprit of expanding household loans” after it eliminated the income threshold and offered loans at lower interest rates than commercial banks.

In May, Kim So-young, vice chair of the Financial Services Commission, said, “Expanding fixed rate loans is a very important task not only to improve the quality of household debt but also to enhance the overall emergency response of our economy.” But in the current situation, it is doubtful whether fixed rate loans will really increase.

Appearing in the National Assembly on August 22, BOK Governor Rhee Chang-yong said, “We will take strong micro and macro measures to prevent household debt from increasing further.” But no market participant expects a rate hike, a substantial prescription to reduce household loans.

While variable-rate loan borrowers are agonizing over the interest burden — and household debt is increasing despite the high interest rate — it is getting harder to find a solution. The authorities must focus more on improving the quality of household loans, including the conversion of variable rate loans to fixed rate ones.