The Credit-Driven Business Cycles in South Korea: How Important Is the Credit Supply Channel?

Abstract

Using quarterly South Korean data spanning from 2000 to 2020, we empirically show an intertemporal trade-off between household debt and economic growth. Beneath this result lies the dynamic interplay between banks, driven by their incentive to expand loan supply—particularly, in the housing mortgage sector—and policy authorities, who implement macroprudential regulations in response to a rapid increase in household debt. This channel—the so-called ‘credit supply channel’—is key in explaining predictable fluctuations in credit supply and changes in the household debt ratio. Employing a three-step regression specification, we document that the credit supply channel accounts for 72% of the growth rate sensitivity over the next 2 years to the household debt ratio.