South Korea will allow new domestic players into its banking industry to break the domination of the sector by just five commercial banks.

Author: Luca Ventura
South Korean creates more competition in its banking sector.

For the first time in three decades, South Korea will allow new domestic players into its banking industry, a step aimed at promoting competition in a field until now dominated by just five commercial banks: KB Kookmin, Shinhan, Hana, Woori and NongHyup. Collectively they accounted for 74.1% of all loans last year and 63.5% of all deposits made nationwide.

In the wake of the 1997 Asian financial crisis, the government encouraged bank mergers and takeovers as a way to limit financial contagion and prevent a cascade of bankruptcies. The resulting oligopoly, especially after the exodus of many underperforming foreign banks, has grown stronger and more impenetrable since then. That is, until earlier this year, when President Yoon Suk Yeol criticized the five lenders for paying rich bonuses to employees while their clients were grappling with soaring loan interest rates.

“Despite South Korea’s relevance in the global marketplace, its financial sector remains underdeveloped in comparison,” says Christopher Paik, an economist at the Fermanian School of Business at Point Loma Nazarene University who specializes in banking in emerging markets. “Having fewer credit providers means that banks are incentivized to pursue the profit margin between deposits and lending.” Yet, he notes, due to the lack of competition, the margin has grown ever wider: “Not only that, but credit allocation is also solely concentrated on good-credit-rated borrowers and conglomerates, to the detriment of new businesses and small or midsize firms.”

To resolve some of these issues, the government has sought ways to increase competition in the credit market by allowing fintech-based firms and large global banks to enter the market. Yet, for all new entrants, understanding a borrower’s creditworthiness and risk profile will remain a major challenge.

“Unlike hard information such as financial statements and income records, soft information can only be collected from operating in a certain geographical region, defined by borrowers’ characteristics and culture,” Paik says. “This becomes an obstacle when new players attempt to enter an emerging market like South Korea.” If they want to succeed, he argues, they are more likely to acquire local banks instead of launching new branches.