Bank of Korea warns of developers’ debt risks as profits shrink

FINANCIAL troubles at South Korean developers may worsen as they start to bear the brunt of a market slump that weighs on their earnings, the central bank said, issuing the latest warning over credit risks that continue to overshadow the economy.

The property sector has taken a hit since the Bank of Korea (BOK) started its policy tightening in 2021 to rein in an inflationary bubble stemming from pandemic-era stimulus. The BOK has kept policy rates at 3.5 per cent, a level it deems restrictive, since January 2023. Elevated rates have made it harder for developers to borrow and repay debt, including limiting access to short-term loans known as project finance (PF).

“The sluggish profitability of construction companies is expected to continue for a while as the impact of the contraction in new orders and permits goes into full swing,” the BOK said on Wednesday (Jun 26) in its regular financial stability report.

“In this situation, if real estate PF projects do not proceed smoothly, the liquidity of construction companies may decrease,” it noted, adding that developers that are smaller in size or based in provincial areas are especially vulnerable.

South Korea’s PF loans amounted to 134.2 trillion won (S$131 billion) in the first quarter while the delinquency rate rose to 3.55 per cent, continuing a rise from late 2021, the BOK said. While PF is among the primary risks for the economy, there is still a low possibility that it will ripple across the financial system, it added.

South Korean developers often borrow against expected future profits, a practice that has long been a source of concern in the property market. After the BOK began tightening, a series of high-profile credit events have kept policymakers on edge, including a 2022 default by the developer of a Legoland Korea theme park.

The central bank may now pivot in the second half as inflation gradually softens towards the target of 2 per cent. The BOK will meet next month for a decision that could provide signals as to the timing of a potential rate cut. BLOOMBERG