Korea Passes Banking Act Amendment to Cap Loan Rate Markups

The National Assembly passed an amendment to the Banking Act in a plenary session on Tuesday, restricting banks from including certain statutory costs in the spread they add to loan interest rates.

The legislation comes amid growing criticism that banks recorded record profits during a period of high interest rates while ordinary citizens struggled with mounting interest burdens. However, critics warn the law may prove ineffective as banks could raise various fees to offset losses, creating a balloon effect.

Bank loan rates are generally structured as the base rate plus a spread, minus any preferential rate discounts. The spread consists of banks' profit margins and various risk costs, including labor costs, IT expenses, branch operating costs, taxes, default risk provisions, and profit targets. While base rates are formed from the Bank of Korea's policy rate and market rates such as COFIX (Cost of Funds Index) and bank bonds, leaving limited room for banks' discretion, the spread is largely determined by banks themselves based on their own assessments of credit risk, funding costs, operating expenses, and target profits.

The amendment specifically targets this spread component. Currently, banks include in their spreads the costs of required reserves held at the central bank, deposit insurance premiums under the Depositor Protection Act, contributions to the Korea Inclusive Finance Agency, and statutory contributions to guarantee institutions such as the Korea Credit Guarantee Fund, Korea Technology Finance Corporation, and Korea Housing Finance Corporation. The core of the amendment prohibits banks from reflecting these statutory costs in their spreads.

The bill, sponsored by Rep. Min Byung-duk of the Democratic Party of Korea, specifically prohibits banks from including in their spreads the costs of required reserves that must be deposited with the Bank of Korea, deposit insurance premiums paid to the Korea Deposit Insurance Corporation, and contributions to the Korea Inclusive Finance Agency mandated by law to support financial services for low-income households. The legislation also limits the reflection of contributions to certain guarantee institutions, including the Korea Technology Finance Corporation and Korea Credit Guarantee Fund, to no more than 50 percent.

The rationale behind the legislation is straightforward: banks need to be regulated after recording record profits while ordinary citizens suffered from high interest burdens during years of elevated rates. In fact, the five major commercial banks—KB Kookmin, Shinhan, Hana, Woori, and NH NongHyup—posted a combined interest income of 42.02 trillion won last year, an all-time high. Supporters argue that removing statutory costs from spreads would lower interest rate levels and put downward pressure on loan rates for households and small businesses.

"We must correct the unfair practice of banks shifting costs they should bear themselves—such as deposit insurance premiums and statutory contributions—onto borrowers," Rep. Min said during a filibuster in the National Assembly on Monday. "Banks are violating the beneficiary-pays principle and treating financial consumers as easy targets. We need to clearly establish interest rate calculation principles in law."

However, concerns surrounding the legislation remain significant. The four major banks—KB Kookmin, Shinhan, Hana, and Woori—have reportedly estimated internally that excluding various costs from their spreads would result in annual losses exceeding 2 trillion won combined. This raises concerns about potential balloon effects, where banks may tighten lending standards, reduce preferential rate discounts, or raise other fees. The National Assembly's Standing Committee on Political Affairs, which has jurisdiction over the bill, opposed its passage. The bill reached the plenary session only after the Democratic Party designated it as a fast-track item in April.

"Negative opinions are being raised, such as 'the effects are uncertain' and 'it will raise the bar for loans,'" Rep. Lee Heon-seung of the People Power Party said in a speech opposing the bill on Monday. "Is it responsible behavior for lawmakers to revise legislation without proper debate and review?"

Following its passage through the National Assembly after twists and turns, the Banking Act amendment will be promulgated at a Cabinet meeting soon and take effect six months later. Observers say financial supervisory authorities and the banking industry must work together to ensure the legislation leads to tangible interest rate reductions that consumers can actually feel.