CASH MANAGEMENT
Cash Management in Korea
July 3, 2007
Kyung Jin (Kevin) Know, HSBC Global Payments and Cash Management - Originally published in HSBC Guide to Treasury and Cash Management in Asia Pacific 2007

OVERVIEW:

• Korea has an advanced financial network and all cash management methods are real-time solutions, available via the Internet.
• The use of payments and cash management systems is growing every year. Retail payments (less than KRW1bn) has grown more than 10%, although retail payments only account for less than 20% of the total value transferred by payments instruments.
• Local banks are developing cash management solutions for small and medium-sized enterprises to expand the size of their non-interest returns; market competition is increasing.
• Local banks are making strategic alliances with foreign banks to provide more advanced global cash management services to clients.

According to the Bank of Korea (BOK), the Korean economy is entering an upward phase. The call rate (the bank's overnight interbank interest rate) on August 2006 was 4.5%, up 0.75% at the end of 2005 (3.75%).

Local bank's net interest margin (NIM) remained at 2.8% in 2005 and dropped to 1.5% in the first half year of 2006. This was due to excessive loan competition between full-sized commercial banks. Services that previously generated high returns have lessened and, to overcome this, the banks have strengthened services on non-interest bearing income.

Cash management plays an important role in terms of non-interest returns, so local banks are planning to form alliances with foreign banks to gain competitive advantage. Local banks are now offering online cash management solutions through highly developed Internet banking systems. Large corporate and multinational companies have long recognised the importance of cash management. Local banks are competing for the small to medium-sized enterprise market; which may grow bigger.

Banking Services

Due to the financial crisis in 1997, roughly 30 of Korea's commercial banks have merged. In 2006, there were seven commercial banks, six regional banks and five special banks in the market. Korea's large banks also compete with the 35 foreign banks that offer specialised and advanced financial services. In the latter half of the 1990s, the Bank for International Settlement capital adequacy ratio was below 10%, in 2006 it has increased to over 12%.

Several large commercial banks were transformed into financial holding companies including Hana, ShinHan and WooRi. KorAm was bought by Citibank, Korea First Bank by Standard Chartered and Korea Exchange Bank by Loan Star respectively. Commercial banks still have a high NIM of 2.8%, although it is expected to fall. According to the first quarter Financial Supervisory Service (FSS) Korean banks statistics, interest income ratio is 86% of total income and non-interest income ratio is just 14%. The statistics also show the non-performing loan ratio as being 1.2% (the lowest ratio) at the end of March 2006. Banks are now beginning post-merger competition to provide differentiated and specialised service.

Clearing and Payment Systems

High value and retail payment clearing trends

The Korean payments system consists of the BOK's high-value fund transfer and the Korea Financial Telecommunication and Clearing Institute's (KFTC) retail payment clearing system. In 2005, the average daily volume of settlements by payment instruments (cash and non-cash instruments, which include cheques and bills, funds transfer, cards and E-money) stood at 21.57 million transactions, for a total value of KRW151.2 trillion. This represented an increase of 9.9%, by volume, and 10.7%, by value, from the previous year.

While the daily average volume of settlement by retail payment instruments, excluding the large value funds transfer system (Bank of Korea Financial Wire Network), stood at 21.56 million transactions for a total value of KRW30.6 trillion. Daily volume of settlement by BOK-Wire stood at 7,946 transactions for a total value of KRW120.6tr. Transaction volume by BOK-Wire is 0.036%, however the value is around 80% (Source: BOK).

Bank of Korea financial wire network (BOK-Wire)

One of the BOK's key functions is the operation and management of the nation's payment systems. To ensure safe and efficient settlement for large-value interbank fund transfers, the bank operates a real-time gross-settlement system, termed Bank of Korea Financial Wire Network (BOK-Wire), which was launched in mid-December 1994. BOK-Wire handles large-value fund transfers (generally over KRW1bn) between financial institutions including the central bank. BOK-Wire enables member institutions and the BOK to settle transactions across current accounts maintained with the BOK on a real-time basis. Membership includes banks and non-bank financial institutions. BOK-Wire handles domestic currencies and foreign currencies (USD and JPY).

For the retail payment, founded in 1986, the KFTC regulates and manages all retail payment systems including cheque clearing, bank giro, Financial Information Network Systems (FINS), electronic money service, Internet-based payments and information security (Yessign digital certificate). It is a non-profit clearing and financial data relay centre jointly owned by 35 member banks: 12 general members, 10 associate members and 13 special participants, including all local banks and several foreign banks. The institute has five major areas of interest - cheque clearing, bank giro, FINS, electronic banking and information security.

Cheque clearing

Cheques and other paper instruments are settled through clearing houses operated by the KFTC. Clearing houses present cheques and other paper instruments daily and receive net value through the BOK the following business day.

Cheques and bills have declined since the mid-1990s with the rise of electronic payments. Various types of cheques and bills are currently used in Korea, including cashier's orders, current account cheques and promissory notes (P-notes). Among these, cashier's orders, which are bearer-form bank drafts, are widely used as a cash surrogate. The fact that the highest denomination cash note is worth about US$10 has prompted the need for cashier's orders.

Current account cheques and P-notes are used mainly for large-value commercial payments. P-notes have a fixed future maturity date and are often known as post dated cheques elsewhere. Due to liquidity needs, P-notes are often endorsed and discounted.

Bank giro

Bank giro allows for convenient direct bulk payments and collections. It is primarily for regular periodic payments such as subscription fees, taxes, credit card payments or utility bills. Giro transactions can be paper based or electronic (direct debits, direct credits and standing orders). Paper-based giro bills are mailed by post and retail customers can use any bank branch to pay them. Direct credits are used for making payments to large numbers of recipients, such as salary payments. Direct debits allow for the collection of pre-authorised payments directly from payers' bank accounts at regular intervals.

Standing orders are designed to allow bank customers to transfer funds to the accounts of the other banks on a regular basis, especially on a designated date every month. The total volume of payments was over 948 million transactions in 2005, 370 million paper-based and 510 million in electronic (Internet giro) format.

Financial information network systems (FINS)

Financial Information Network Systems (FINS) securely connects the computer systems of all banks in Korea in order to process financial transactions. There are two major networks - the interbank funds transfer system (IFTNET) for over the counter banking transactions and CD/ATM (cash dispenser/automated teller machine).

IFTNET enables a customer visiting any bank branch to transfer funds over the counter to any bank account on a real-time basis. The remitting party need not have an account with that bank. Over the counter fund transfers are available during banking hours (9:30am to 4:30pm) with an upper limit of KRW100m (about US$100,000) per transaction. In case of the remittance of money collected, there are no limits.

Interbank Home/Firm Banking system (HOFINET) extended the existing infrastructure for the funds transfer between bank accounts by Internet banking, telebanking, PC banking and mobile banking. This system has grown into a hub for electronic banking transactions between banks in Korea. Electronic banking has become much more popular because of the tremendous growth of Internet use in Korea. Banks are also encouraging its use by offering lower transaction fees. Moreover, there are no geographic limitations with electronic banking.

Specific to Internet banking in Korea is the requirement of local digital certificate signing for all payments. An Internet banking user must obtain a unique digital certificate issued from a government registered certificate authority. The digital certificate is an electronic signature that identifies the user in all Internet transactions. Tele-banking services do not require digital certificates. Fund transfers through the Internet network have a ceiling of KRW1bn per transaction and are available 24 hours a day, seven days a week.

Cash management service (CMS) system

Cash management system (CMS) was established in 1996. It is similar to a bank giro and enables a company with several accounts in more than one bank to make and receive a number of payments electronically through its accounts and to produce multi-banking reports. Common CMS transactions include regular collections such as installments, premiums and membership fees, and regular payments such as salaries, pensions and interest. FINS also supports EFT/POS (electronic funds at point of sale) services and all debit cards issued from abroad are processed only by this EFT/POS system.

Continuous linked settlement (CLS)

Beginning in November 2005, the Korean won became eligible for settlement through continuous linked settlement (CLS). Kookmin Bank and Korea Exchange Bank are settlement member banks, and 17 other financial institutions are the third party bank.

Cash and Bank Account Management

Non-resident companies can open bank accounts in Korea. Korean banks offer highly developed electronic banking solutions to both resident and non-resident companies. Of electronic banking solutions, Internet banking has become the most popular amongst companies.

Money laundering, government and supervisory services are pushing to strengthen reporting and internal monitoring systems. Banks are responsible for anti-money laundering measures such as issuing suspicious transaction reports and currency transaction reports as well as undertaking customer due-diligence.

Pooling is not permitted in Korea. Domestic cash concentration (sweeping) is permitted but cross-border is not allowed. Local and foreign currency domestic cash concentration services within the same legal entity are provided. Sweeping between different entities is not allowed due to fair trade regulations.

Liquidity Management

Liquidity management enables companies to achieve optimal profitability from under-utilised funds and increase control over their cash flows. Banks' innovative liquidity solutions help turn idle funds into working cash. Money market instruments such as funding liquidity, trading liquidity and sweeping are available.

Corporate Finance

Major tools for corporate finance are banks, the stock market and the bond market. Among these, banks are the main corporate financing tool for the industry and the amount of money loaned to industry was at over KRW318 trillion (over 40% of total loans by banks) as of the end of March 2006 (Source: BOK). The majority of Korean industry conglomerates deal with more than one bank and do most of their financial dealings with these banks. The total market capitalisation of the stock market is over KRW650 trillion and KRW270 trillion is owned by foreign investors (which is 38% of the total market). Total listed capital stock is more than KRW80 trillion and the total listed value of corporate bonds issued in the bond market reached KRW100 trillion as at the second quarter of 2006 (Source: KRX).

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