Rising Bond Yields Burden Households and Businesses Despite Foreign Investment

Foreign investors have purchased over 32 trillion won in South Korean government bonds, yet market interest rates remain stubbornly high. Despite a ceasefire agreement in the Middle East conflict, concerns are growing that elevated bond yields are increasing the financial burden on households and businesses.

According to the Korea Financial Investment Association, on June 23, the yield on three-year government bonds fell by 4 basis points to 3.77%, while the yield on ten-year bonds decreased by 2.4 basis points to 4.171%. Although geopolitical risks have eased somewhat with the recent ceasefire, market interest rates still significantly exceed pre-war levels.

The yield on three-year bonds surged to 3.940% on June 8, dropped to 3.710% following the ceasefire on June 17, but has since rebounded. Compared to the end of February, before the conflict escalated (3.041%), current rates are approximately 0.7 percentage points higher. The ten-year bond yield also peaked at 4.348% earlier this month before declining slightly, yet it remains in the low 4% range.

Market analysts believe that inflation and the trajectory of monetary policy are more significant factors than foreign investment. Since South Korean bonds were included in the World Government Bond Index (WGBI) in April, foreign investors have net purchased over 32 trillion won in bonds over the past three months, exceeding the government's projected monthly average inflow of 8 to 9 trillion won.

However, inflation concerns stemming from the Middle East conflict, stronger-than-expected economic growth, and the potential for tighter monetary policy from the Bank of Korea have largely offset downward pressure on interest rates. While the WGBI effect has slowed the pace of rising rates, it has not reversed the upward trend.

The rise in market interest rates is quickly translating into the real economy. The yield on three-year government bonds serves as a benchmark for bank bonds and fixed-rate mortgage and credit loan rates. As government bond yields increase, lending rates at commercial banks are also rising. Analysts predict that if the Bank of Korea raises its benchmark interest rate next month, household interest burdens will increase further.

Particularly vulnerable are borrowers with large loans, such as those in the 'young-gul' demographic, self-employed individuals, and financially fragile borrowers. For small businesses and self-employed workers who have relied on loans since the COVID-19 pandemic, rising interest rates will directly lead to increased interest costs.

Corporate financing conditions are also deteriorating. The ten-year government bond yield is a key benchmark for corporate bond rates. If the ten-year yield remains high, companies will face increased costs for issuing corporate bonds and refinancing, which could dampen their investment capacity. This is especially concerning for medium and small enterprises, which may face constraints on capital investment and new business initiatives.

Market observers anticipate that as the Bank of Korea's tightening measures take effect, the current upward pressure on market interest rates will intensify. Given that rising government bond yields are translating into higher lending and corporate bond rates, a more pronounced tightening trend could further increase the financial burden on households and businesses.

Kim Jeong-sik, an emeritus professor of economics at Yonsei University, stated, "Considering the current inflation and liquidity situation, it is highly likely that the Bank of Korea will raise interest rates. An increase in rates will inevitably impact economic growth, as well as the real estate and stock markets." He added, "If excessive liquidity is left unchecked, it could lead to more significant side effects. Given past experiences of failed liquidity management during the 1980s economic boom, the Bank of Korea may find it necessary to absorb market liquidity through interest rate hikes."