that shook the Asia-Pacific credit card industry earlier this
decade have had a long-lasting impact on lending and risk
practices. Victoria Conroy looks at the findings
of the recent report from the Bank of International Settlements on
Asia’s cycle of boom and bust.
A new report from the Bank of International Settlements (BIS),
the central bank of central banks, has examined the excessive
credit card lending in the Asia-Pacific region of the mid- to late
1990s, which resulted in the default crisis that hampered the
region’s economies earlier this decade, and asks what lessons can
be learned to avoid such a crisis in the future.
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According to the report, rising consumer affluence and a change
in governmental/regulatory policies led to the credit card business
becoming one of the fastest-growing areas of unsecured retail
finance in many Asian markets, most notably Hong Kong, Korea and
Taiwan. These markets were at the centre of marked credit card boom
and bust cycles, which the BIS said contained many common elements.
These included intensified competition in the high-yield, less
prime credit card lending business, leading to reduced lending
standards. Other factors included a rapid build-up in household
indebtedness, a disproportionate concentration of debt burdens
among riskier cardholders, a sudden deterioration of asset quality
and a subsequent contraction in credit card receivables.
The boom
Total credit card use volume increased by 200 to 500 percent in
many Asian markets between 1998 and 2005, while per capita credit
card balances outstanding grew by two to six times. By 2005, credit
card receivables ranged between 2 and 7 percent of their respective
total bank loans outstanding and between 3 and 15 percent of total
household lending.
A large increase in credit lending and availability fuelled the
boom. For example, in Hong Kong, credit card balances increased
from 3 percent of GDP in 1998 to 5 percent in 2001. South Korea’s
outstanding credit card debt grew the most rapidly, from 4 percent
in 1999 to 15 percent in 2002. Taiwan had balances of 5 percent in
2002 and 9 percent in 2005.
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By GlobalDataAccording to the BIS, such lending booms might have appeared to
reflect a ‘catch-up’ process with more developed Western credit
markets, but in retrospect, they also seem to have gone hand in
hand with a relaxation in screening and lending standards of
issuers amid intensified competition.
Another factor in the lending boom was the generally limited
credit reporting infrastructure in some markets. This contributed
to the excessive build-up of risks in credit card lending
portfolios, particularly in Hong Kong and Korea, where local credit
reporting systems were limited in terms of customer base and types
of data collected. Also, some leading local issuers did not
participate in the local credit reporting system. Conversely,
Taiwan’s credit bureau was arguably among the most sophisticated in
the world but this did not prevent the boom-bust cycle.
Higher lending rates on a fast-growing but not well-seasoned
credit card portfolio initially brought about healthy net earnings,
driving issuers to focus more on the credit card lending business.
According to the BIS, the seasoning effect in credit card lending
appears to be similar to that of corporate high-yield bonds, which
tend to have low default rates in the years immediately after their
issuance. In Korea, cash advance fees and interest charges exceeded
20 percent, compared to the prevailing unsecured personal loan
rates of 6 to 7 percent.
The BIS said that through either an understatement of the rules
involved or the knowing acceptance of greater risks, the result of
all these factors was excessive lending and riskier credit card
lending portfolios.
More-over, there was a deliberate strategy to target the market
for less prime and higher-yielding revolving cardholders, and as
result competition for market share began moving down the credit
spectrum. As a consequence, the composition of the cardholder base
changed markedly, leading to larger and higher-risk card lending
portfolios.
In Taiwan, the outstanding balance of cash cardholders, who are
mostly revolvers and thus riskier on average than credit
cardholders, amounted to half of credit card receivables by late
2005. Korean issuer LG Card found that 70 percent of its bad loans
came from card lending extended to accounts acquired during
2000-2001, when the number of cards issued more than doubled.
The bust
The BIS report points to how these factors combined to produce
excessive indebtedness amid rising delinquencies, which resulted in
tighter lending standards, credit contraction and prolonged balance
sheet adjustments. As card portfolios became more seasoned,
delinquency and credit costs rose, due to mounting provisions and
charge-off expenses, which squeezed cash flows and profit margins.
Card issuers became more cautious in extending credit lines to
riskier card customers and trimmed lending in some cases, further
tightening credit availability. This, in turn, pushed up
delinquencies among overleveraged borrowers.
This is illustrated by rapid declines in credit card balances
and sharp rises in the impaired asset ratios of lenders. In the two
years following their respective peaks, Korea’s credit card
receivables fell by 65 percent, compared to a decline of 30 percent
in Taiwan, but only a 10 percent fall in Hong Kong.
Responding to early signs of asset quality deterioration,
tighter administrative and regulatory measures were implemented.
These included the establishment of a more inclusive credit
reference agency in Hong Kong; stronger write-off and disclosure
requirements in Taiwan; and in Korea, upgrading credit card
classification standards and raising minimum capital adequacy
ratios from 7 percent to 8 percent. While aimed at decreasing
pressure in the long term, these measures had the short-term effect
of risking additional contractionary effects on credit card issuers
and borrowers, exacerbating the credit crunch.
As the situation worsened, policy shifted towards a crisis
management approach and debt rehabilitation for overleveraged
cardholders.
However, leading issuers suffered heavy losses from their card
lending business – the BIS estimates that around one-third of the
entire card lending books at their peaks eventually had to be
written off in the wake of credit card stresses. Korea’s boom
crashed in the most spectacular way – although credit card lending
normally amounted to less than 10 percent of the total loan books,
Korea’s credit card balances for both bank and monoline issuers
were equivalent to as much as one-fifth of total bank loans
outstanding at the peak of the boom. Commercial banks were also
heavily exposed to monoline card issuers. As of March 2003, Korean
commercial banks’ lending to troubled LG Card totalled 38 percent
of the creditor banks’ combined equity.
Finally, rising delinquencies impacted negatively on the real
economies concerned, mostly via weakened consumer spending.
Worsening asset quality, funding difficulties and tougher
regulations reinforced credit contractions.
Korea’s credit crisis
In particular, Korea’s 2003 credit card crisis was notable in
that government policies played a more prominent role at the start
of the lending boom than in other markets. Also, since monoline
card issuers dominated Korea’s credit card industry, the crisis
spilled over into the wider capital markets.
Korea’s government put in place a policy package that included
tax benefits for card-accepting merchants, and income tax
deductions linked to credit card purchases made by cardholders.
Authorities also abolished the ceiling of KRW700,000 ($766) on
monthly cash advances and removed the limit of leverage (up to 20
times capital) on credit card issuers. The weighted regulatory
capital requirement for the specialty issuers was only 7 percent,
despite the undiversified nature of their business. In response,
the market grew sharply between 1999 and 2002, with the number of
credit cards rising from 40 million to 100 million and credit card
assets expanding fivefold.
Korean authorities arranged a rescue of the failing LG Card,
which aroused considerable controversy because of possible moral
hazard complications. In the wake of the March 2003 bond market
sell-off, the Bank of Korea injected substantial liquidity through
open market operations, and the government persuaded domestic
investors to roll over the matured debts of credit card companies
and to exercise their put options in credit card asset-backed
securities. Also, the authorities pressured majority shareholders
of troubled credit card companies to inject capital, suspended the
trading of LG Card bonds, directed a state-owned bank to extend
credit to LG Card and eventually co-ordinated a process of
debt-equity swaps to ensure the joint control of LG Card by
creditor banks in 2004.
Lessons learned
According to the BIS report, the boom and bust situations
outlined highlight the importance of placing greater emphasis on
detecting early warning signs before imbalances build up
excessively. Even from a low base, the rapid growth in indebtedness
itself can pose new risks, especially during periods of structural
change. Nor should a benign economic environment lead to the
conclusion that a consumer debt crisis will not occur.
Given the time lags in data collection, problem recognition and
policy response, there is probably a need to strengthen the
capacity of policy makers to conduct on-site examinations.
The BIS says that governments can also help enhance the
provision of information in the consumer credit market. For
example, to mitigate information asymmetries between lenders and
borrowers, credit information sharing should be encouraged. Timely
disclosure of issuer information could help the financial market
exercise its disciplinary role. In addition, with a wider
population being offered access to credit cards, better consumer
education may help contain misuse.
Taiwan’s experiences suggest that credit reporting is no
guarantee of safety and that careful consideration should be given
to how best to maintain the integrity of systems designed for
credit information sharing and reporting.
