South Korea's anti-trust watchdog launched its probe Tuesday into local brokerages on suspicion that securities firms may collude on fixing rates for 91-day certificate of deposit (CD).

The Fair Trade Commission (FTC) confiscated computers with records of quotation from several local brokerages that quote the CD rate and investigated officials concerned, according to local media reports.

The investigation came as the CD rate stayed at a high level despite the drop in other market interest rates. The 91-day CD rate was quoted at 3.24 percent on Tuesday, while the three-year Korea Treasury Bond (KTB) yield closed at 2.92 percent.

The three-year KTB yield plunged more than 20 basis points (bps) after the Bank of Korea (BOK) unexpectedly cut its policy rate by 25 bps to 3 percent last Thursday, but the 91-day CD rate was almost unchanged despite the rate cut.

BENEFITTING BANKS

High level of CD rates tends to benefit local banks as a large portion of bank loans consists of CD rate-linked loans. According to the Financial Supervisory Service (FSS), 34.8 percent of bank loans used the CD rate as a benchmark as of end-September 2011.

Loans linked to the CD rate accounted for 43.3 percent of the total lending to households as of end-September last year, much higher than 27.5 percent for corporate loans. The higher the CD rate, the more banks will benefit from, but the more interest repayment burden households will suffer from.

The CD rate, which is widely used as a benchmark in setting lending rates, is published by the Korea Financial Investment Association (KFIA) twice a day after excluding the highest and lowest rates from those offered by 10 local brokerages.

Securities firms evaluate the CD rate after 7 domestic banks with the highest credit rating sell CD to secure short-term funds. Suspicions remained that brokerages probably offered the rate higher with the intention of avoiding incurring hatred from banks, which are their major customer.

"CD rates are major borrowing costs for short-term funds of banks as well as a benchmark for lending rates, so the rate has a significant impact on banks' earnings," said Cho Yong-mu, a research fellow at LG Economic Research Institute (LGERI).

RELUCTANT TO ISSUE

CD issuance by local banks continued to reduce as lenders were reluctant to sell the securities to meet the loan-to-deposit regulation. The financial regulator required banks to lower the ratio of loans to deposits below 100 percent by the end of 2013. CDs were classified as wholesale funding, not as deposits.

Outstanding CDs floated by domestic banks stood at 29.9 trillion won (26.18 billion U.S. dollars) as of end-June, down 2.2 trillion won from six months earlier, according to the FSS. The outstanding balance plunged 69.6 trillion won in 2010 when the regulator introduced the regulation before contracting 10.7 trillion won in 2011.

Trading volume of CDs also showed a downward trend. After peaking at 224 trillion won in 2008, the CD turnover continued to reduce to 151 trillion won 2009, 75 trillion won in 2010 and 54 trillion won in 2011 respectively.

Under this environment, banks were estimated to deliberately issue little CDs in recent months as issuing CDs may serve as an excuse for lowering the CD rate when local brokerages evaluate the rate.

"If some banks issue CDs at a higher or lower level, it will have a big impact on CD rates given the fact that only 7 banks affect the decision on the offered CD rate. This weakness can be materialized when trading volume reduces. Actually trading volume of CDs retreated recently to a clear extent," said Cho.

TO REDUCE DEBT BURDEN

The anti-trust agency's probe into whether brokerages colluded on fixing the CD rate seemed to come as part of efforts to reduce debt repayment burden for households. If banks keep the CD rate higher for their benefits and securities firms help lenders do that, the probe itself can put pressure on those concerned to normalize the benchmark for lending rates.

Efforts to lessen interest repayment burden for households were spotted elsewhere as well. The BOK's rate cut this month came just two days after Governor Kim Choong-soo participated in the meeting with other economic policymakers in the presidential office to discuss the possible resolution over the massive household debts.

Kim told reporters after the July rate-setting meeting that the policy rate cut would lessen the repayment burden for households as it would reduce borrowing costs for the floating-rate loans that account for around 95 percent of the total household debts.

Interest repayment burden for households has increased since the Financial Services Commission (FSC) unveiled last June a set of countermeasures against excessive household debts in the banking sector. The introduction triggered shift of demand for loans from banks to non-bank financial institutions that usually demand higher lending rates.