Is South Korea's banking industry headed for a breakdown?

Find out what Fitch Ratings has to say following various reports of South Korean banks' falling profits, cautious lending, and other anomalies.

According to a recent report, South Korean banks are expected to post net lower profits in 2Q12 due to an absence of gains from equity sales, an increase in administrative costs, heavier provisioning due to the euro-zone crisis and tougher regulatory guidance aimed at reducing the risk of household debt.

Hana is likely to report a 51% year-on-year fall in net profit to KRW239 billion. KB Financial will likely report a 33.3% year-on-year fall in net profit to KRW554.6 billion. Shinhan Financial Group is expected to report a 35.1% net profit decline from a year earlier to KRW625.8 billion. Finally, Woori Finance Holdings is seen to report a 44.9% year-on-year fall in net profit to KRW436.1 billion.

The banks are also expected to be more cautious about extending loans due to increased economic uncertainty.  And just recently, nine major South Korean banks are reported to be investigated by the Fair Trade Commission on suspicion of colluding to fix the interest rates on certificates of deposit.

But amid a less favorable banking environment, Mark Young, Managing Director and Head of Asian Pacific Financial Institutions at Fitch Ratings, notes that they have a Stable Outlook for Korea's banks and closely monitoring key developments in Korea. He reveals that the banking system has an adequate capitalization (FCC ratio of 12.2% at end-2011; no significant change in H112) and acceptable profitability (underlying ROA of about 0.6% in H112).

"Moreover, the funding/liquidity has improved noticeably since 2008. There is a rise in consumer protection cases which has increases the legal risks for the banks, but it is difficult to ascertain the financial impact at this stage. Lastly, we take prudent lending (or slow loan growth) as positive in general given the more challenging environment."