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Too much debt may kill you.

The East Asia Foundation publishes EAF Policy Debates. EAF PD No. 64 deals with household debt in South Korea, written by professor Wonseok Park at Daegu University.

Citing data from the Bank of Korea, Professor Park shows that the outstanding household debt in Korea during the third quarter of 2016 was 1,295 trillion won (around $1.08 trillion). During the third quarter alone, the debt increased by 38 trillion won (around $31.65 billion), representing the highest quarterly increase in household debt since the Bank of Korea began tracking it. Professor Park calls it "a time bomb with an unknown detonation date."

Clearly, excessive household debt can be a serious threat to the Korean economy. The question then relates to what constitutes excessive household debt. If my monthly payment on debt is $10,000, but my monthly income is $100,000, my debt would not be considered excessive. On the other hand, if my monthly payment on debt is $1,000, but my monthly income is $2,000, my debt should be considered excessive.

Professor Barbara O'Neill of Rutgers University excludes mortgage debt in defining "consumer debt" which thus consists of "outstanding balances on credit cards, installment loans for cars and other 'big ticket' items (that is, furniture and appliances), and student loans." Professor O'Neil suggests calculation of the consumer debt to income ratio "to determine if your consumer debt obligations are out of line for your income."

In calculating the debt to income ratio, monthly payments on mortgage, rent, utilities or taxes should not be counted as debt, while income should be after-tax net spendable income. Professor O'Neil warns that if the consumer debt-to-income ratio reaches 20%, your finances are considered to be in the "danger zone."

From the view of the national economy, a better indicator may be the total debt to income ratio per person in which debt includes their mortgage payment. Note that the Great Recession of 2008 began with abuse and fraud relating to mortgage-backed securities.

According to my calculations, the debt to income per person in Korea is approximately 0.8 or 80 percent. I calculated this by dividing the total debt of $1.08 trillion by 50 million, which is the population in Korea. I then divided the outcome by $25,000, which approximates income per person in Korea. Is the 80 percent dangerously high?

An April 2012 IMF study by Daniel Leigh, Deniz Igan, John Simon, and Petia Topalova indicates that during the five years preceding the onset of the Great Recession, the household debt to income ratio in advanced economies "rose by an average of 39 percentage points, to 138 percent." In absolute value, Korea's 80 percent debt to income ratio does not look too bad. In terms of the rapid increase in the ratio in recent years, Professor Park is correct in saying that now is the time to address the issue.

Professor Park also states that the composition of household debt in Korea is even more worrisome in that the major increase in recent years has occurred in non-banking loans that carry higher interest rates and are likely to be borrowed by those with comparatively low credit worthiness.

The potential danger of Korea's household debt has not been addressed for many years since the Korean government acted in NIMTO (Not In My Term of Office). What can be done to lower the danger of the potential blow-up of Korea's household debt issue? I do not know what the solution is. Policy makers are criticized for being anti-growth if borrowing is made difficult, and criticized for making the debt problem worse if borrowing is made easy.

I wonder how many of you have truly experienced financial difficulty. If you need money, you are likely to ask friends and relatives for loans. If that does not work, you may go to a bank to borrow money. If you do not have credible collateral, bankers will tell you to go to day loan or title loan places. If you are really in bad shape, day loan and title loan companies will tell you to go to a bank, fully knowing that banks would not lend you money.

If you are really in bad shape financially, there is one more problem. Laura M. Argys, Andrew I. Friedson, and M. Melinda Pitts published a study titled "Killer Debt: The Impact of Debt on Mortality" in a U.S. Federal Reserve Bank of Atlanta Working Paper 2016-14, published in November 2016. Based on data for 170,000 individuals, they analyzed the effect of individual finances, specifically credit worthiness and severely delinquent debt, on the risk of mortality.

Their conclusion is that "debt resulting from a financial crisis has lasting effects on health that are substantial enough to increase mortality rates," and "financial policies are health policies: the effect of individual finances on mortality is non-trivial." Stated simply, too much debt may actually kill you.
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Publication:The Korea Times News (Seoul, Korea)
Date:Apr 16, 2017
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