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Differentiating the Guaranteed Rate: A Way to Improve the Sunshine Loan Program

Yoonhae Oh

No 40, KDI Focus from Korea Development Institute (KDI)

Abstract: The uniformly high guaranteed rate currently provided by 'Sunshine Loan' through non-bank depository institutions does not incentivize the financial institutions to put enough efforts into the preliminary screening or follow-up management. If the policymakers are to enhance the capacity of non-bank depository institutions in dealing with subprime unsecured personal loans (microcredit), they should differentiate the guaranteed rate according to the credit rating, the loan amount, and the number of loan issued to the same person. - The application of differentiated guaranteed rates is required to motivate nonbank depository institutions to use relationship banking and to step up their efforts in followup management. - The guarantee credit default rate of Sunshine Loan is 13.5 percent while the default rate of Smile Microcredit is 6.8 percent, and the default rate of New Hope Loan is 3 percent. - Currently, nonbank financial institutions lend a large amount of money to the borrower at once before collecting detailed information about the borrower. - The default occurrence rate is calculated based on the number of loans. It should be noted that this is different from the general default rate, which is based on the amount of the loan. - The default occurrence rate for borrowers with bad credit ratings is markedly lower for Smile Microcredit than for Sunshine Loan. - The long-term default conversion rate for borrowers with good credit ratings is markedly lower for Smile Microcredit than for Sunshine Loan. - The stepwise loan method involves loaning a small amount of money to gain information about the borrowers before lending them larger amount of money. - The guaranteed rate must be differentiated according to the credit rating, the amount of loans and the number of loan issued to the same person in order to induce financial institutions to use the stepwise loan method. - A low guaranteed rate should be applied to borrowers with good credit ratings to encourage financial institutions to put more effort into effective delinquency management. - It is crucial to seek methods for motivating nonbank depository institutions to expand local, relationship-based banking and to be faithful to their original function.

Date: 2015
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