South Korea's economy and financial markets will be safely insulated even under the worst case that could become a reality amid the slowing global economy and the escalating trade dispute between the world's two largest economies, a central bank report said Thursday.

The report, submitted to the National Assembly, came amid concerns that Asia's fourth-largest economy, already struggling with a slowdown, is facing looming uncertainties stemming from the flaring-up trade tussle between the U.S. and China and a delayed recovery in prices of semiconductors, a key product that has propelled the country's outbound shipments.

The Bank of Korea has partly attributed the sluggish growth to the trade dispute between Washington and Beijing, which has led to a dip in the country's exports for six consecutive months since December.

Hit by a sharper than expected slump in exports, the country's economy unexpectedly contracted 0.4 percent in the first quarter of the year from three months earlier, marking the worst performance in a decade.

There exists a possibility that an escalation of the global trade dispute and a drop in local housing prices will have a negative impact on the local economy and financial market, undermining the capital adequacy of financial institutes," the report noted.

To identify any possible fallout from such woes, the central bank conducted a stress test, assuming an exceptional or worst-case scenario where the escalation of the trade dispute and dip in housing prices take place simultaneously and at a "very strong level."

Bank of Korea Gov. Lee Ju-yeol speaks to reporters at the central bank's headquarters in Seoul on June 20, 2019.

"In most financial sectors, the capital ratio dropped by a large margin but remained higher than regulatory standards," the central bank noted.

"However, there may be individual financial institutes whose capital ratio may come to be lower than regulatory standards. As the study shows non-banking financial institutes, such as insurance and securities companies, may be more vulnerable to shocks, there is a need to pay attention to the possibility of risks transferring from non-banking financial institutes to banking institutes," it added.

Unlike financial companies, manufacturers may already be facing serious problems caused by slowing growth and sluggish exports.

According to the report, the interest coverage ratio of local companies came to 5.9 at the end of 2018, down from 6.3 a year earlier.

The interest coverage ratio is calculated by dividing a company's operating profit by its interest expenses and is used to determine how easily it can pay its interest expenses on outstanding debt.

"As the companies' debt conditions may worsen due to changes in global economic and trade conditions, there is a need for preemptive efforts, such as expanding their reserve funds to improve their debt payment capabilities," Min Jwa-hong, director of BOK's financial stability department, told a press briefing.

The BOK also stressed the need to keep a close watch on household debts, which reached a record high of 1,540 trillion won (US$1,300 billion) as of the end of March.

"The growth in household credit has greatly slowed due to (government) measures to stabilize the housing market and tougher loan screening," said the report.

The central bank said earlier that the country's household credit -- household loans and credit card spending -- increased only by 3.3 trillion won in the January-March period from three months earlier, marking the lowest on-quarter gain since the first quarter of 2013.

Corporate credit, on the other hand, continues to rise at a rapid rate, according to the BOK report.

In the first three months of the year, corporate loans extended by banks increased 4.8 percent on-year to 842.5 trillion won.

Local companies also issued a net 6.3 trillion won worth of bonds in the January-March period, the largest figure since the third quarter of 2012, the report said.

"There is a need to strengthen the country's risk management capabilities in preparation for increased corporate credit risks, while keeping the growth of household debt at a low level," it added.

Thursday's report comes amid growing calls for the central bank to lower its policy rate to boost the economy.

BOK Gov. Lee Ju-yeol recently hinted at a possible rate cut down the road, stressing the need for what he called "appropriate measures" to deal with worsening external conditions caused by the U.S.-China trade dispute.

The top central banker again noted the possibility Thursday, one day after the U.S. Federal Open Market Committee (FOMC) decided to keep its own policy rates frozen at a range of 2.25-2.5 percent in a split vote.

"Since eight out of 17 FOMC members expressed their views on (a need for) a rate cut within the year, I believe the market is paying close attention to that language. By any means, the market sees the possibility of a rate cut before the year's end has somewhat increased," Lee told reporters.

Still, the BOK chief insisted a rate cut by the U.S. will not automatically mean a similar action by South Korea.

"All countries always consider a move by the U.S. Fed in making their own decision because the impact of a change in the Fed's decision on the global financial market and economy is great," he noted. "But it does not mean (they) mechanically mimic the Fed's decision."

Bank of Korea Gov. Lee Ju-yeol speaks to reporters at the central bank's headquarters in Seoul on June 20, 2019. (Yonhap)

In April, the BOK revised down its 2019 growth outlook to 2.5 percent from 2.6 percent three months earlier.

In the three months ended March 31, Asia's fourth-largest economy grew 1.8 percent from the same period a year earlier, also marking a 0.4 percent contraction from three months earlier.

The central bank is set to offer its latest outlook in mid-July when it will also hold its next policy rate-setting meeting.(Yonhan)

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