South Korea - 2015

MARC has affirmed South Korea’s foreign currency sovereign rating of AAA with a stable outlook based on its national rating scale. The rating reflects MARC’s opinion of the sovereign’s ability to meet its foreign currency obligations in full and on time. The government of South Korea (GoK) has no debt rated by MARC. The rating also serves as a country ceiling for ringgit-denominated debt issued locally by issuers domiciled in South Korea. Transfer and convertibility (T&C) risks are reflected in the country ceiling. The analysis is based solely on information available in the public domain.

The rating reflects South Korea’s favourable macroeconomic conditions, supported by a well-diversified, high-income economy; credible and proactive monetary policy; sound fiscal policies; and improving external finances. The rating also takes into consideration South Korea’s high household leverage, as well as persistent geopolitical concerns. 

South Korea’s overall credit strength undoubtedly lies in the foundation of its well-diversified economy, a reflection of credible and proactive economic policies. In 2014, the manufacturing sector accounted for 29.0% of gross domestic product (GDP), somewhat larger than the norm for advanced countries, while the services sector’s share was 53.5% of the economy. The significant expansion of its per capita GDP in purchasing power parity (PPP) terms to USD33,791 in 2013, up from a low of USD2,300 in the early 1980s, is an indication of its economic vibrancy and vitality. Overall economic performance remains broadly resilient (2014: 3.3%; 2013: 3.0%), notwithstanding the quarterly growth slowdown since 2Q2014 after the deadly Sewol ferry disaster.

Also underpinning the rating is South Korea’s credible and proactive monetary policy. The Bank of Korea (BoK) has a good track record of dealing with past economic challenges such as escalating real estate prices prior to 2009 and the economic downturn during the Global Financial Crisis (GFC). It also has a good grip on inflation. After falling from a peak of 4.0% in 2011, inflation has remained subdued, holding at 1.3% in 2014 for the second consecutive year. This has offered some policy space for the central bank to respond to weakening domestic demand; in the eight months through March 2015, it lowered the policy rate by a cumulative 75 basis points (bps) to a record low of 1.75%. Effectively, official lending rates have drifted below 4.0% since November 2014 and the overall lending trend has rebounded swiftly. 

South Korea’s rating is also anchored by its sound fiscal policies as evidenced by a proven track record of budget surpluses in all but four years over the last two decades. Although the overall balance is expected to slightly worsen in the short to medium term, the deterioration reflects the country’s current expansionary fiscal stance that is aimed at economic recovery and developing future growth engines. South Korea’s overall government debt metrics remain manageable and government debt as a percentage of GDP stood at a respectable 33.9% in 2014 (2013: 32.5%), well below the norm in advanced countries (OECD average in 2013: 84.7% of GDP). More importantly, as the bulk of the borrowings were from domestic sources, foreign currency risk does not pose a serious issue. As past historical prudence has helped provide the government with substantial fiscal space to tackle the current economic slowdown, MARC does not foresee overall fiscal soundness to be materially impacted over the medium term.

Also supporting the rating is South Korea’s external finances which have continued to improve in spite of a challenging external environment. In 2014, the current account (CA) surplus reached a record high of USD89.2 billion (6.3% of GDP; 2013: 6.2% of GDP). Going forward, it is expected to widen further in the short term largely on account of persistently low global crude oil prices. Also, for the first time in history, South Korea registered a positive net international investment position (IIP) in 2014. This is credit positive as it will further enhance the country’s position as a net creditor nation. Its external debt profile is also improving; short-term obligations, which make up just 27.1% of total external debt, are more than matched by short-term external assets which are 4.5 times its size. Moreover, a high level of international reserves – 3.2 times of short-term obligations and ranked seventh-largest in the world – should provide an adequate cushion in the event of massive capital outflows. 

The rating also takes into consideration South Korea’s high household leverage, which continues to accelerate, although the pace has somewhat moderated. In 2014, household debt reached a record high of 138.0% of disposable income and 73.3% of GDP (2013: 134.2% of disposable income and 71.5% of GDP). As South Korea has already had a history of overextended consumer borrowings, which led to a mini-crisis in the early 2000s, MARC foresees this segment as a potential source of financial vulnerability. However, risks have been tempered by the high level of household financial assets relative to household financial liabilities (2.0 times). Also, recent Financial Services Commission (FSC) data show that the household debt structure has continued to improve; 70% of borrowers are from high income households who can afford debt repayment.

Persistent geopolitical concerns arising from exposure to the North Korean regime is another rating concern. Although the Korean War ended in 1953, the Korean Peninsula remains technically in a state of war as a formal peace treaty has yet to be signed. While the North Korean leader had hinted early in the year of the possibility of high level talks with South Korea, the prospect of that happening remains uncertain. MARC is of the view that unification of the two Koreas remains unrealistic at the current juncture, though there would be short-term gains for both sides should there be talks, particularly on issues of economic exchange, security and nuclear weapons.

The stable outlook is based on the assumption that the government’s ambitious Three-year Plan to revive the sluggish economy is not hampered by politics. It also reflects MARC’s expectations that both the government and the BoK remain proactive in dealing with different market pressures, in light of the weakening domestic demand as well as the increasing uncertainties prevailing in the global economy.

Major Rating Factors

Strengths

• Well-diversified, high-income economy;
• Credible and proactive monetary policy;
• Sound fiscal policies; and
• Improving external finances.

Challenges

• High household leverage; and
• Persistent geopolitical concerns.