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Although a reckoning was overdue, the suddenness of South Korea’s suspension of eight savings banks was surprising. Signs of strain at the small, community-based lenders were long apparent; heavy exposure to the property industry put loan portfolios at risk as construction activity cooled and housing prices stagnated. Nevertheless, the suspensions of one bank last month and seven so far this month has generated drama, and some fear, in the country.

The recent suspensions were the first such actions taken against savings banks by the Financial Services Commission (FSC), South Korea’s financial industry watchdog, since October 2000, when 17 savings banks were forcibly shut down. The FSC issued “corrective” orders to wayward savings banks in the intervening years, but the severity of shortcomings at some lenders required more drastic measures. The suspension of Samwha Mutual Savings Bank last month spooked savers, who hastily withdrew billions of won from other savings banks, leading to a further seven suspensions (including Busan Savings Bank, the country’s largest savings bank).

Read more at Financial Services Briefing: “Big trouble at little lenders” (February 24th)

The latest quarterly earnings reports for large western banks followed the same script; improving economic conditions allowed them to boost profits by slashing loan-loss reserves.

It’s a different story in South Korea. In aggregate, the country’s 18 domestic banks saw their second-quarter profits plunge by more than 60%, as bad debt provisions more than doubled versus the previous three months. What’s more, in late June South Korea’s financial regulator announced that banks were launching “creditor-led corporate workout procedures” for 65 large, troubled corporate borrowers. The restructuring will require around US$2.5bn in extra loan-loss reserves. Even considering today’s gloomy news on second-quarter profits, for South Korea’s banks it might get worse before it gets better.

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