PBOC Policy Bank Focus Finds Fan in Korea Restructuring Push

  • Plan to restructure 'zombie' companies involves central bank
  • Further lowering rates, bond buying are other options on table

With a growing need for South Korea to restructure its “zombie” companies, the central bank is being nudged to add ammunition to government-run policy banks -- a tactic that’s already found favor in China.

While the People’s Bank of China uses state-run lenders to channel funds to needed areas, one option being suggested in Korea is for the central bank to help raise the capital buffer at policy banks that are playing a key role in the corporate overhaul.

With thousands of companies classified as “zombies” whose profits don’t cover loan interest payments, the Korean government is pushing them to streamline and reduce debt. While the Bank of Japan is trying to stoke prices and growth through massive bond purchases to expand the monetary base, the BOK’s tools in recent years have been limited to lowering interest rates and making credit more available to some companies. Yet the urgency of corporate restructuring is leading the BOK to consider other options.

There are, however, limits to what the central bank can do to ramp up the restructuring. Borrowing costs are already low -- the central bank has kept the key interest rate at a record low for almost a year -- so the debate has turned to increasing capital at state-run lenders.

Even if recapitalization is achieved, the BOK would still face pressure to take bolder steps to aid the economy. Efforts to arrest a drop in Korea’s inflation rate and foster economic growth have been disappointed in recent years amid a slump in global trade.

“Korea’s central bank will be required to do more to support the economy as seen globally, but options will be narrow,” said Kim Kyung Soo, an economics professor at Sungkyunkwan University in Seoul, who added that the BOK must be careful to stay within its mandate and not favor specific sectors.

Here are some options for Korea’s central bank:

Policy Bank Focus

China has been using its policy banks as a tool to ensure funds flow to necessary areas. Through its Pledged Supplementary Lending program, the People’s Bank of China is opening the taps to fund investment in areas such as shantytown development. In the past, policy banks had to seek rollovers from the central bank each month -- imposing a form of lending restraint -- yet with the new program the funds will be allocated at the start of each month.

The discussion in Korea on corporate restructuring involves the BOK’s interaction with state lenders, albeit at a somewhat different angle from China’s approach. China is making lending easier for policy banks while the focus in Korea is to raise the capital buffer.

Options suggested by Korea’s government include the BOK directly injecting capital to state lenders such as the Korea Development Bank and Export Import Bank of Korea, or purchasing certain types of debt sold by the lenders that are regarded as capital.

So far, the BOK is taking a cautious stance. Governor Lee Ju Yeol said to reporters during the ASEAN+3 meeting in Frankfurt earlier this month that the central bank requires valid reasons to use its privileges.

One possible option flagged by Lee was repeating an approach used during the financial crisis, according to Yonhap News. BOK had made loans to a newly set up “bank recapitalization fund,” which then purchased hybrid debt issued by banks to raise the capital buffer.

Lowering Rates Even More

With Korea’s key rate at 1.5 percent for almost a year, analysts including those at Standard Chartered Plc, Nomura Holdings Inc. and Citigroup Inc. are predicting additional cuts in 2016 to offset risks to growth.

Still, there are limits to how low the rate can go, especially with the Federal Reserve on a tightening track. BOK’s Lee has pointed to a prolonged period of low rates as one reason for the increase in “marginal” or “zombie” companies, usually defined in Korea as businesses that have been unable for three years to make payments on interest from operating profit.

Most analysts forecast that the BOK board will vote at its meeting Friday to keep the current rate as they monitor the progress of corporate restructuring and evaluate economic data. Of 18 economists surveyed by Bloomberg, 15 forecast no change and three projected a rate cut to 1.25 percent.

Going Big on Bonds

The idea of a Korean form of quantitative easing was first raised by the ruling Saenuri party during the election campaign earlier this year, although with a narrow focus on a specific type of bonds. The possibility of massive bond purchases -- like that at the core of monetary stimulus efforts in Japan -- hasn’t gained public support in South Korea.

“I don’t see QE as a feasible option for the foreseeable future in Korea as the key rate is at 1.5 percent and there is room for fiscal policy,” said Chang Jae Chul, an economist in Seoul for Citigroup Inc. “With actual growth likely to trail the potential growth rate in 2016 and 2017, there would be a need for accommodative monetary policy.”

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