South Korea's central bank on Tuesday warned that the debt-servicing capacity of some of the country's most vulnerable households could fall on the back of a delay in economic recovery and rising interest rates. In a bi-annual report on financial stability, the Bank of Korea said although households' overall debt repayment capacity appears solid, those in low-income basket and in low-credit groups face default risks given that debt accumulation has far outpaced disposable income growth.

"Those people (categorised as vulnerable households) would feel a bigger debt repayment burden than other households when the interest rates increase, as many of them have variable-rate loans, and often more than one," Byun Seung-sik, head of Financial Stability Department at the BOK said. "They (the number of vulnerable households) are on the rise."

Household debt stood at 1,295.8 trillion won ($1.08 trillion) at the end of the third quarter this year, up 11.2 percent from a year earlier. The bank said about 6.4 percent of borrowers, representing 78.6 trillion won of total debt, will see their debt repayment capacity fall when interest rates increase. South Korean households are bracing for higher loan rates as local yields track US interest rates, which are expected to rise in 2017. The US Federal Reserve earlier this month raised short-term interest rates by a quarter of a percentage point and signalled a quicker pace of monetary policy tightening for the year ahead, triggering bond yield spikes in emerging economies. The household debt-to-disposable income ratio was at 151.1 percent at the end of the third quarter, having risen 7.4 percentage points from the end of 2015.

Copyright Reuters, 2016