An Empirical Test of Banks' Exposures to Distressed Household Debts in Korea : A Macro Stress Test

Recently, the household debt level in Korea rising at a higher rate than the economic growth casts a serious doubt on the stability of household banking sector when the linkage between banking business and macroeconomic shocks gets stronger. This paper investigates the impacts macroeconomic shocks may have on the loan portfolios at the household level and tests their effects on the capital adequacy under the different macroeconomic scenarios. using the macro stress test. The simulation results showed that a 1SD shock to the VAR model could raise the distressed household debts by 0.92% and add another 1.32%p under the worse case scenario with a BIS capital adequacy ratio dropping to the below 10%. The abilities of banks to absorb macro shocks, though being sufficient in the ordinary and exceptional economic conditions, appeared to be seriously weakened under the extremely stressed condition. It is suggested that the government needs to monitor a severe concentration of bank portfolios on the housing market and leads commercial banks to maintain its exposures within a narrowly defined range.