Korea Credit Guarantee Fund and Its Contribution to the Korean Economy

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126Korea Credit Guarantee Fund andIts Contribution to the Korean EconomyYong Pyung ParkInternational Affairs OfficeKorea Credit Guarantee Fund (KODIT)AbstractSmall and medium-sized enterprises (SMEs) serve as the root of the national economy.However, SMEs suffer from limited access to financing due to high administrative costs ofsmall-scale lending, asymmetric information, high risks attributed to SMEs and deficiency incollateral. In order to alleviate this problem, Korea Credit Guarantee Fund (KODIT) wasfounded in June 1976 by the Korea Credit Guarantee Fund Act. Its objective is to lead thebalanced development of the economy by extending credit guarantees for SMEs that have futureprospects but lack tangible collateral and by stimulating sound credit transactions through theefficient management of credit information.KODIT is a public financial institution providing comprehensive supports for SMEs. Withits capital fund of USD 3.2 billion, KODIT provides 11 types of general credit guarantees andP-CBO guarantee. As of the end of 2005, the outstanding credit guarantee reached over USD31.6 billion. In addition, KODIT operates credit information management, guarantee-combinedinvestment, credit insurance, management consulting and infrastructure credit guaranteeservices.Throughout its history, KODIT has actively supported the SMEs of Korea, therebypromoting economic vitality, easing the inequalities within the economy and instilling theimportance of credit. In particular, KODIT played a crucial role in reviving the economy byimplementing government policies at every financial crisis and stabilizing the market. Itscontribution was clearly shown in the studies that proved production inducement, economicvalue added inducement and job creation effect of credit guarantee service.Upon its 30-year anniversary, KODIT is preparing for another springboard for the future.Under its new corporate vision “HOPE-KODIT,’’ it strives to attain healthy capital structure,97

optimal SME support policy, professional workforce and ethical operation. Through continuousinnovation efforts, KODIT aims to remain as the trustworthy partner of SMEs and contribute tofurther economic growth of Korea.Key words : Credit guarantee system, Small and medium enterprises (SMEs), Korea CreditGuarantee Fund, KODITI. IntroductionCredit guarantee scheme is widely used in various countries, both in underdeveloped anddeveloped countries. It is reported that over 2,250 schemes exist in various forms in almost 100countries (Green, 2003). Credit guarantee also boasts of a long history, which dates back to 3B.C., as it was written in the ancient Mesopotamia clay tablets (KODIT, 1998). Today the creditguarantee system of each country comes in different shapes, reflecting the history and the socioeconomicdevelopment stage of the country. Even countries in a similar stage of economicdevelopment or in geographical proximity may be operating different type of systems. Thus, itis hard to draw a definition of credit guarantee that exists in a wide variety of forms. Yet, it iswidely accepted that credit guarantee system attempts to overcome the credit marketimperfection which disadvantaged groups—notably the small and medium enterprises(SMEs)—are experiencing in getting formal loans, by allowing lenders to shift loan recoveryrisks to the guarantee program (Vogel & Adams,1997). It is generally said that the creditlimitation of SMEs stems from high administrative costs of small-scale lending 1 , asymmetricinformation, the high risk attributed to SMEs and their deficiency in collateral 2 . Such lack ofcredit restricts the growth of SMEs and causes regionally-unbalanced growth, waste ofentrepreneurial resources, under-investment, which ultimately hinders the economic vigor andthe long-term development of the national economy.Many nations have made various efforts to alleviate these problems caused by SMEslimited access to credit, one of them being the credit guarantee system. The Korean governmentfounded Korea Credit Guarantee Fund (KODIT) 3 in June 1976 in order to tackle this problem.1 Generally, the administrative cost of ten USD 10,000 loans is higher than that of one USD 100,000 loan.2 Green Anke, op. cit.3 Upon its 30 th anniversary, Korea Credit Guarantee Fund changed its acronym to KODIT, which comes from KoreaandCredit.98

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126The establishment purpose of KODIT can be found in article 1 of the Korea Credit GuaranteeFund Act, which clearly prescribed that KODIT was established to facilitate the financing ofenterprises by guaranteeing the obligations of business enterprises which lack collateral, and tocontribute to the balanced development of the national economy by establishing sound creditorder through the efficient management and use of credit information. Over the last 30 years,KODIT has provided credit guarantees to promising SMEs, thereby creating more employmentand generating more economic added value. Lately, KODIT played a crucial role in therecovery process after the financial crisis.This article aims to give an overview of KODIT’s services and operation. First, it willreview background behind KODIT’s establishment and its past 30 year history, followed by adescription of present operation of KODIT and its performance. Lastly, it will introduce theinnovation efforts of KODIT and its vision for the future.II. The small and medium enterprises in KoreaThe role of SMEs can be assessed from an economic and a social point of view (Kim, 2006).First, from an economic point of view, SMEs participate in the market and play an importantrole in the operation of market mechanism. SMEs that possess flexibility and innovativenesscan also swiftly respond to the changes in consumption trends in the market, therebystrengthening national competitiveness and facilitating future economic growth. Second, from asocial point of view, SMEs enhance social stability. SMEs account for over 87% of the totalemployment. Furthermore, SMEs alleviate the concentration toward large enterprises within theeconomic structure. And since most of the SMEs are regionally dispersed, they alleviate theinequality among regions.Recognizing their socio-economic importance, the Korean government put unsparingefforts to support SMEs. For the effective implementation of SME policy, the legal definition ofSMEs is indispensable. In Korea, definition of SMEs is made based on the following criteria 4 .- The definition of SMEs is based on the number of employees and capital, or the numberof employees and sales, differentiated by industrial sector.- For instance, a manufacturing company with less than 300 employees or capital less than4 The definition of SMEs is prescribed in the Act on Small and Medium Enterprises and the enforcement regulation. Themost recent definition was revised in November 2005.99

8 million dollars is defined as SME.- On the other hand, a wholesale and retail company with less than 100 employees andsales less than 10 million dollars is defines as SME.Table 1Definition of SMEs.Source: Article 2 of Framework Act on SMEs, Article 3 of Enforcement Decree of the Act100

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126The current statistics on Korean SMEs clearly shows their importance in the nationaleconomy. As of the end of 2004, the number of SMEs is around 3 million, which account forover 99.8% of all business enterprises.Table 2Number of business enterprises and employeesSource: Korea National Statistical Office, Basic Business Statistics AlmanacSMEs produce over 48.6% of the total production and are responsible for almost 50% ofthe total economic added value.Table 3Production and economic value added(Unit : billion KRW)Source : Korea Federation of Small and Medium Businesses, Statistics on SME101

III. The history of KODITA. Introduction of credit guarantee systemThe beginning of the credit guarantee system in Korea is traced back to 1961 when thecredit guarantee reserve system was first introduced. But the Korean government’s effort tofacilitate the credit guarantee system became unsuccessful, due to the passive operation ofcredit guarantees by delegated banks. From the 1970s, the Korean government started toimplement diverse policies in order to support the SME sector, which had been neglected duringthe rapid economic development process. Against this backdrop, the Korea Credit GuaranteeFund Act was promulgated in December 1974, followed by the establishment of KODIT in June1976.The establishment of KODIT is meaningful in the following aspects. First, it marked thebeginning of credit guarantee operated by a separate entity. Before KODIT, several commercialbanks carried out credit guarantee services but were allowed to provide guarantee only withinthe pre-arranged limit. With the establishment of KODIT, credit guarantee liability that used tobe limited to the credit guarantee reserve of the delegated bank became unrestricted, whichgreatly improved the creditability of the system and helped the expansion of the system.Second, an autonomous credit guarantee policy was set up, which laid the foundation forspecialization and consistency in the system. This led to a vast improvement in the scheme,which could not be expected in the delegated system of the past. Third, it gave new meaning tocredit in commercial transactions. Before KODIT, credit meant personal friendship or tangiblecollateral. But since the establishment of KODIT, the creditability of a business enterprise hasbeen assessed by KODIT in terms of future business prospect, repayment ability and possiblecontribution to the domestic economy. This feature of KODIT led to the establishment of thesound credit order in the society.B. Early stage (1976~1980)Since the establishment of KODIT, the credit guarantee system of Korea made a rapidprogress. When KODIT was founded in 1976, 15 years after the launch of the credit guaranteereserve system in 1961, the capital fund was KRW 32 billion and the outstanding creditguarantee was KRW 101 billion. However, in just 4 years since the founding of KODIT, thecapital fund reached KRW 135 billion and the outstanding credit guarantee stood at KRW 1.2trillion. That is the capital fund and outstanding credit guarantee increased 3.2 times and 12.4102

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126times, respectively, since its foundation. Such achievement proved that the credit guaranteesystem operated by an independent entity enabled a more active provision of credit guarantees.This also owed to the fact that the perception of financial institutions and business enterpriseson credit guarantee system was greatly enhanced. In addition, with its given autonomy inoperating the system, KODIT was able to implement several changes in credit guaranteeprograms. Guarantee for loans from non-banking financial institution and guarantee for leaseswere newly adopted. And the revolving guarantee program 5 which enhanced the convenience ofcredit guarantee users were launched.Table 4Business performance in the early stage(Unit : billion KRW)C. Overcoming the second Oil Shock and further development (1981~1989)KODIT, which had recorded steady growth since its establishment, faced a big challengefrom the late 1970s to early 1980s. During that time, the political turmoil as well as the secondOil Shock led to a dramatic increase in its credit guarantee default ratio 6 . The default ratio,which had remained at 2~3% soared up to 7.6% in 1980. In addition, the steady increase incredit guarantee provision led to large scale of payment under guarantee. As a result, KODITrecorded its first net loss in 1981, which seriously hindered its payment ability. In order toovercome the crisis, KODIT switched its focus to a selected support for SMEs. At the same5 Under the revolving guarantee program, a business enterprise can request credit guarantee any time when it requiresfinancing, within the pre-arranged credit line.6 Default ratio = credit guarantee default amount / outstanding credit guarantee.103

time, it implemented measures to boost the collection of payment and to cut operationalexpenses. The Korean government made contribution of 25 billion KRW for the first time sincethe establishment of KODIT, thereby enhancing the payment ability of KODIT anddemonstrating the strong will of the government to bring the credit guarantee system back tonormal. Such collective effort of the Korean government and KODIT enabled the furtherdevelopment of the credit guarantee system. In the 1980s, along with the economic growth ofKorea, the credit guarantee system witnessed progress as well. Especially during this period, theSME policy started to be regarded not just as a measure to protect the disadvantaged SMEs, butas an indispensable tool for the balanced economic growth. As the importance of SMEs wasnewly recognized by the government, credit guarantee became one of the major tools ingovernment s SME policy. In line with this, KODIT also overhauled its guarantee system toaccommodate the change in government’s policy. Before this period, the commercial bankswere reluctant to use credit guarantees, because of the obligation to collect guarantee-backedloans first in case of default. Such obligation as well as the duty to implement follow-upmanagement was abolished. These changes laid the foundation for guarantee provision on alarger scale. As a result, in 1986 the outstanding credit guarantee reached over KRW 2 trillionand in a mere 2 years, the amount reached over KRW 3 trillion.Table 5Business performance in the 1980s(Unit : billion KRW)104

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126D. Economic reform and the credit guarantee system (1990~1997)KODIT, which had recorded stable growth thanks to the booming economy in the 1980s,witnessed further growth in the 1990s. In 1993, the newly elected government implemented aneconomic reform. And as part of such reform, it actively supported the SME sector throughcredit guarantee. Accordingly, the outstanding credit guarantee more than doubled in just 4years from KRW 3.9 trillion in 1989 to KRW 8.5 trillion in 1993. However, the increase incredit guarantee provision led to the increase in payment under guarantee as well. And in orderto assure the sound management of the system, the government made a large amount ofcontribution to KODIT. In 1994 and 1995, the governmental contribution was KRW 240 billionand KRW 290 billion, respectively. Considering the fact that the tax revenues in thecorresponding period were KRW 43 trillion and KRW 52 trillion, the amount of governmentalcontributions were quite considerable. The contribution from financial institution was alsoraised to secure financial resources for credit guarantee. During the process, however, the highoperational costs incurred in operating the credit guarantee system came under criticism.Nevertheless, the policy effectiveness of credit guarantee was proved, which laid the foundationfor the active use of credit guarantee after financial crisis in 1997.Table 6Business performance in the 1990s(Unit : billion KRW)105

E. Overcoming the financial crisis and afterwards (1998~present)In 1997, the Korean economy was hit by the financial crisis. Because of the recession aswell as the change in government policy which refrained from placing protectionistic measurestoward companies, large conglomerates defaulted at an unprecedented level. The default of suchlarge business enterprises led to chain-reaction bankruptcies of their contractors and financialinstitutions as well. In the mean time, the Asian monetary crisis which started in July 1997 inThailand affected the depreciation of Korean Won. During the process, the foreign reserves ofthe Bank of Korea were depleted and the Korean government had to seek financial assistancefrom the International Monetary Fund. Amid the financial crisis, the Korean economy recordednegative growth in 1998 for the first time since 1980. With massive lay-offs caused by chainreactionbankruptcies and falling consumption, the financing of business enterprises greatlyaggravated. The financial market was stalled, which led to the vicious circle of bankruptcies. Inorder to overcome the financial crisis, the Korean government laid out policies for swiftrecovery, in which KODIT played a crucial role. In addition to credit guarantees for SMEs,KODIT also provided special guarantees to restore economic vitality in the market. Specialguarantees mean they were implemented for specific purposes. The number of special guaranteetypes was 24, which included “Trade financing guarantee for exporting companies,’’ “Guaranteefor bill discounts,’’ “Guarantee for real estate trusts to boost housing construction,’’ etc. All ofthese special guarantees, except for P-CBO / CLO guarantees were terminated in March 2002when the economy picked up. The total number of special guarantee cases was 331,000 and theamount was KRW 45 trillion. The special guarantee of KODIT was praised to have contributedto the swift recovery of the Korean economy by normalizing the market, alleviatingunemployment and revitalizing the bond market. The arrangement between Korea and IMF wasterminated in 2000, 3 years earlier than planned.Table 7Business performance of special guarantees(Unit : billion KRW)106

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-1261. Special guarantee for start-up companiesThe financial crisis caused the unemployment level to soar up at an unprecedented level.The unemployment ratio which was 2.6% in 1997 rose to 8.0% in February 1999. In order toprotect the middle-class and to create more jobs, the Korean government and KODITintroduced special guarantee for start-up companies in July 1999. The program garneredtremendous interest nationwide. In 4 days after the program was announced, over 6,800 soleproprietors applied for a guarantee. Until its termination in June 2002, around KRW 5.5 trillionguarantees were provided to a total of 225,339 cases and contributed greatly in lowering theunemployment rate.Table 8Business performance of special guarantee for start-up companies(Unit : billion KRW)2. P-CBO guaranteeThe Korean economy which was on a recovery process faced another challenge in 2000. Abulk of corporate bonds issued during the financial crisis reached maturity, which made thebond market unstable. KODIT quickly implemented P-CBO guarantee and helped to stabilizethe ailing bond market.Table 9Business performance of P-CBO guarantee(Unit : billion KRW)During the economic recovery process, much progress has been made in the creditguarantee system as well. The two most noticeable changes were the introduction of partialguarantee and launching of the credit rating system. Partial guarantee system refers to the107

scheme under which the financial institution and the KODIT share the loss at a pre-arrangedratio. The system, which was introduced in December 1998, aimed to prevent moral hazard andthe credit evaluation skills of financial institutions, thereby enhancing the soundness of creditguarantees. In December 2000, KODIT developed its in-house credit rating system calledCCRS 7 and applied it to its services. The launching of CCRS enabled a risk-based operation 8 ,which enhanced both efficiency in services and soundness of credit guarantees. During therecovery process, the credit guarantee amount of KODIT has vastly increased. The outstandingguarantee, which was KRW 11 trillion in 1997, reached KRW 33 trillion in 2002. The drasticincrease of credit guarantee brought concerns about the negative impact of the system. To copewith this, KODIT started to implement innovative measures to reform its system. Theinnovation efforts of KODIT will be introduced later in this article.Table 10Business performance after the financial crisis(Unit : billion KRW)IV. Capital fund and governanceA. Capital fundCapital fund refers to the financial resources with which KODIT can provide credit7 CCRS stands for Corporate Credit Rating System and calculates the credit rating of the company by combining financialrating, non-financial quantitative and qualitative rating.8 This includes the introduction of a risk-based guarantee fee and entity-wide risk management system.108

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126guarantee. It decides KODIT’s ability to provide guarantee and adds credibility to its creditguarantee. The capital fund of KODIT as of the end of 2005 is around KRW 3 trillion. Capitalfund is composed of contribution from the Korean government and financial institutions. Inparticular in 2005, KODIT received contribution of KRW 2 billion from SK Telecom, theleading telecommunication company in Korea, as a result of its effort to diversify its source offunding. The most important aspect of the capital fund is that it decides the total guaranteeprovision through the leverage effect. The leverage ratio prescribed in the law is 20 times thecapital fund, but to assure the sound management of the fund, the ratio is kept around 10 timesthe fund.Table 11Contribution and capital fund(Unit : billion KRW)B. GovernanceKODIT has a decision making system, which is divided into a body for outsidestakeholders and for inside stakeholders whose rights and obligations are prescribed by relevantregulations. Such arrangement aims to increase efficiency and to ensure fairness in the decisionmaking process.- Decision making system of outsidersThe board of policy is the highest decision making body. It sets the policy direction of anddecides on important matters regarding the operation of KODIT. Through the board of policy,the Ministry of Finance and Economy (MOFE) and the National Assembly grant approval on109

the yearly business plan and budgeting.- Decision making system of insidersThe board of executive directors sets yearly business plan of KODIT and approves internalregulations. It delegates its decision making power to relevant department heads to ensureautonomy and increase efficiency.- Supervision and external evaluationKODIT receives supervision and external evaluation of its overall businesses. Every year,it receives the inspection from National Assembly. At the same time, KODIT’s accounting andperformance is under the inspection from the Board of Audit and Inspection of Korea (BAI). Inaddition, the operation results of the fund and business performance of KODIT is evaluatedeach year by a board of fund operation evaluation, commissioned by the Ministry of Planningand Budget (MPB).National AssemblyFigure 1Governance of KODITV. Operation and performance of KODITUnder the Korea Credit Guarantee Fund Act Article 23, KODIT is engaged in a variety ofbusinesses including credit guarantee, business consulting, management of credit investigation,and management of credit information, etc.110

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126The Korea Credit Guarantee Fund Act Article 23 (Business)In order to achieve the purpose of this Act, Korea Credit Guarantee Fund shallcarry on the business falling under the following subparagraphs :1. Management of capital funds;2. Credit guarantees;3. Business consulting;3-2. Management of credit information;4. Management of subrogation right;5. Research and development of credit guarantee system; and6. Any business incidental to the business as provided in subparagraphs 1 through5 and approved by the Minister of Finance and Economy 9A. Credit guarantee1. Framework of credit guarantee systemCredit guarantee is one of the most important services of KODIT. The framework ofguarantee for bank loans, which takes up around 85% of the general guarantee, is as follows.First, an applicant applies for a guarantee to KODIT typically after a consultation for a loanwith a bank. Then, KODIT issues a letter of credit guarantee after a series of approvalprocedures. Upon receiving the letter of credit guarantee, the bank extends loan to the applicant.Figure 2Framework of guarantee for bank loan9 Under this subparagraph, KODIT operates guarantee combined guarantee services and credit insurance services.111

2. Credit guarantee procedureThere are two methods in credit guarantee procedure, which are direct and indirect method.The direct method is the most common type in which KODIT conducts credit investigations andcredit evaluation on applicants and decides whether or not it extends guarantee for theapplicants. In 2005, 97% of all credit guarantees were provided through this method. Whereasunder the indirect method, KODOT entrusts banks with all the operations for credit guaranteesincluding credit investigation and issuance of the letter of credit guarantees. Currently, twotypes of indirect guarantee, general indirect guarantee and special indirect guarantee, are inoperation. Through trustee contracts with KODIT, 13 banks are participating in the generalindirect guarantee program under which the participating banks have the discretion to providecredit guarantee up to KRW 100 million. The special indirect guarantee program is open onlyfor the Industrial Bank of Korea (IBK) which allows IBK to extend guarantees to cooperatives.Figure 3 Classification of credit guarantee services 1010 Refer to Table 13.112

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126Table 12Outstanding general guarantee by methods(Unit : billion KRW)General guarantees consist of 11 types of guarantee. Each type of guarantee and itsoutstanding amount is described in table 4 and table 13.Table 13Types of general guarantees(Unit : billion KRW)11 Reguarantee service was terminated in Jan. 2004.113

Table 14Outstanding general guarantee by type(Unit : billion KRW)3. Eligible enterprisesAll profit-seeking business entities or their organizations are eligible for credit guaranteeunless they fall under the categories as follows. Ineligible industries include (a) hotel,recreational condominium business, (b) luxurious restaurant business, (c) financial services, (d)real estate agency service. Ineligible companies include (a) company that is not in operation, (b)company that is overdue in payments of bank loans, (c) company that submits false documents,(d) company run by a person responsible for the payment under guarantee, etc.4. Flow of credit guarantee serviceIn order to obtain guarantee from KODIT, the applicant needs to go through a series ofprocedures. First, the applicant is required to have a consultation visit or internet consultation.114

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126In this stage, KODIT focuses on the applicant’s eligibility. After receiving required documents,KODIT conducts a credit investigation and reports the credit rating of the applicant. During thecredit evaluation stage, KODIT decides the amount of guarantee for the applicant. If KODITdecides to provide a guarantee, it issues a letter of credit guarantee to a lending bank. It usuallytakes three to nine working days for the whole process.5. Structure of guarantee feeAn applying enterprise is required to pay guarantee fee to KODIT upon receiving the letterof credit guarantee. KODIT has a guarantee fee system which is closely tied to the credit ratingof the applicant. The basic fee rate ranging from 0.5% to 2.0% p.a. of the guarantee amount iscomputed by the corresponding rating of the applicant. The final fee rate is decided by addingor subtracting a certain rate to the basic fee, depending on the applicant’s current situation orthe type of guarantee product. For a large company, additional 0.5% p.a. is added to the final feerate.Table 15Basic guarantee fee rate115

Table 16Guarantee fee system6. Coverage ratioAs discussed in the previous chapter, KODIT introduced a partial guarantee system in1998. KODIT revised its partial guarantee system in January 2006, under which the coverageratio for an applicant is tied to the credit rating. One noticeable feature is that when the creditrating goes up, the coverage ratio diminishes. This is because KODIT’s new partial coveragesystem aims to encourage the credit lending of private financial institutions by sending them thesignal that an enterprise with lower coverage ratio has a higher rating.Table 17Standard coverage ratio by credit rating* If an enterprise is not able to accept the standard coverage ratio, it is required to pay additionalguarantee fee of 0.2% p p.a. per 5% p of coverage ratio116

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126B. Management of credit informationThe importance of Credit information cannot be emphasized too much, especially in themodern economy. KODIT, since its foundation, has accumulated and managed its creditinformation data collected in the process of credit investigation. It successfully launched thecredit information service called CRETOP in 1992 using its largest database of creditinformation on Korean SMEs. With this service, enterprises and financial institutions couldobtain crucial credit information on their trading partners and clients. KODIT had acted as acredit bureau until Korea Enterprise Data (KED) was spun off in May 2005, it. In 2005, KODITconducted 47,311 cases of credit investigations and possesses 741 thousand credit informationon Korean SMEs as of the end of 2005.C. Guarantee combined investmentIn March 2005, KODIT launched guarantee combined investment service through which itprovides venture companies with capital by purchasing shares or underwriting bonds. Thisservice serves both parties interest because invested companies can obtain long-term capitalwhile KODIT can expect extra capital gains from the investment. Eligible enterprises for thisservice are innovative companies in digital broadcasting, next-generation battery,semiconductor industries that have great potential to lead the Korean economy to a higher stage.As of the end of June 2006, KODIT invested KRW 8.5 billion in 10 companies.D. Credit insuranceKODIT introduced credit insurance service exclusively for SMEs in March 2004. Thisservice is designed to provide SMEs with protection against the risk which comes from thefailure of buyers to pay their trade receivable. It covers 80% of the non-payment of receivablesin case the buyer cannot fulfill its obligations toward the supplier (insurant) due to insolvencyor default. The maximum amount for each insurant is KRW 1 billion while the total amount oftrade receivables from a single buyer should not exceed KRW 7 billion. The credit insuranceservice also helps SMEs (insurants) enhance their risk management ability with KODITconstant monitoring of credit status of suppliers. The service has been popular among SMEssince its inception. In 2004, the initial year of service, KODIT provided KRW 1.3 billion andKRW 1.7 billion of credit insurance in 2005.117

Figure 4Framework of credit insuranceTable 18Business performance of credit insurance(Unit : billion KRW)E. Infrastructure credit guaranteeIn January 1999, KODIT became the sole operator of the Korea Infrastructure CreditGuarantee Fund (KICGF), which was established in August 1994 and used to be operated by theKorea Development Bank, KOTEC, and KODIT. The objective of Infrastructure creditguarantee is to help private investment corporations obtain funds for infrastructure constructionprojects. In order to obtain infrastructure credit guarantee, the applicant is required to apply forthe guarantee and go through screening and investigation process. KODIT decides whether toaccept the application and draws up the possible amount of the credit guarantee. Reflectinglarge scales and low risks, the ceiling amount of this service for a single firm is KRW 100billion and guarantee fee ranges from 0.3% to 1.3% of the total guarantee amount. Theguarantee fee is calculated based on the project risk and the credit rating of the applicant.Outstanding infrastructure guarantee stood at 233 billion KRW for 11 projects in 2004 and 321billion KRW for 10 projects 2005.118

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126Table 18Outstanding infrastructure credit guaranteeF. Management consultingTo help SMEs address the difficulties they face in management, KODIT providesmanagement consulting service. The service is composed of management consulting, trainingprograms, and publications. Management consulting is performed by “KODIT ManagementConsulting Group,’’ formed of independent experts who possess experience and knowledge intheir fields. KODIT pays 50-70% of the consulting fees. Consulting is done on site or via theInternet. In 2005, 22 cases were provided in the form of on-site consulting while 56 cases weredone over the Internet. Furthermore, KODIT trains owners and employees of SMEs through itsvarious programs, which are also provided on line as well as off line. KODIT offers nineprograms including Integrated Course for Accounting, Course for Professional Salesmen, andCourse for Accounts Receivable Management. In 2005, a total of 4,164 trainees passed throughthese training programs. In addition, KODIT publishes the monthly “KODIT newsletter’’leaflets and “Management Information’’ booklets which contain useful information in the areasof business strategy, personnel, finance, and marketing. 18,318 publications in total weredistributed in 2005.Table 19Business performance of management consulting119

VI. Measurement of KODIT’s operation resultsKODIT has played an important role in the development of Korean economy that has beenrarely witnessed in the world’s history. There have been attempts to estimate the benefits ofcredit guarantee, most notably by two leading research institutions, Korea Institute forIndustrial Economics and Technology (KIET) and Korea Institute of Public Finance (KIPF).A. Input-output analysis (KIPF, 2003)The benefits of KODIT can be calculated through the Input-output model 12 . The estimatesare shown in the table below.Table 20 Benefits of credit guarantee 13 (Unit : billion KRW)According to the analysis, in 2005 the production induced by credit guarantee reachedKRW 1.3 trillion. For 2005 the ratio of “production inducement’’ to “guarantee provision’’ worked12 This model is based on Input-Output model of W. Leontief, 1906-1999.13 The results for year 2003 to 2005 were calculated by KODIT using the methodology of KIPF.120

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126out to be 4.39%. That is to say, for every KRW 100 guarantee provision additional KRW 4.39 ofproduction was induced. Thus this result presents policy makers a meaningful point in thatcredit guarantee institutions should focus on the industrial sectors that have larger productioninducement effects. In 2005, KRW 600 billion additional value was created by credit guarantee.Credit guarantee also was estimated to induce over 30,000 jobs every year. The ratio of jobcreation effect to guarantee provision was around 4%, reflecting the amount of unemploymentrestrained by credit guarantee.B. Cost and benefit analysis (KIET, 2001)Cost and benefit analysis measures efficiency and value of public institutions or projects bycomparing the costs and benefits from operations. First, the cost of KODIT is calculated asfollows :Costs of KODIT (payments under guarantee labor costs currentexpenses commissions) (recoveries from payment guarantee feesincome from investment)rate of return)(contributions from the government x expectedSecond, the benefits of KODIT were estimated under the assumption that the benefits ofcredit guarantee are the sum of added value from additional guarantee provision. The formulasare presented below.Benefits of KODIT Guarantee provision VOIC 14VOICAdded Value (t) / Managerial Assets (t-1)(Sales (t-1) / Managerial Assets (t-1))(Sales (t) / Sales (t-1))(Added Value (t) / Sales (t))Managerial Assets Total Asset Construction in Process—InvestmentThe estimates for the benefits and costs are presented in the following table :14 Value Added to Operating Investment Capital.121

Table 21 Estimates of costs and benefits of KODIT 15(Unit : billion KRW)The above table shows that the benefits of KODIT exceed the costs. The Benefit to Cost(B/C) ratio 16 which shows the efficiency of a public institution has ranged from 5.2 to 7.3 times,which implies the operation of KODIT has been efficient.VII. Recent innovation effort and future development strategyKODIT has made great contribution to the development of SMEs as well as overcomingnational challenges such as the oil shock and the financial crisis. Nevertheless, it was pointedout that the overblown amount of credit guarantee since the financial crisis hindered theworking of the financial market based on market principle, prolonged the life span of marginalSMEs and placed a heavy burden on the national economy due to the high cost in operating theguarantee scheme. In response to this, KODIT derived a new corporate vision HOPE-KODITwhich aims at operational, organizational, personnel innovation with an ultimate goal of pursingself-sustainability. Each character of HOPE stands for healthy capital structure, optimal SMEsupport, professional workforce and ethical operation. HOPE symbolizes the strong will ofKODIT to achieve systematic innovation with a market friendly approach. To achieve thisvision, KODIT set up three objectives; (a) reducing default rate to 4% until 2008, (b)eliminating high cost low efficiency factors, (c) balancing public interest and commercialism,contrary to the previous approach which solely focused on public interest.15 The results for year 2003 to 2005 were calculated by KODIT using the methodology of KIET.16 A public project is said to be efficient when the ratio is equal to or above 1.122

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126⋅Figure 8Vision of KODITA. Operational innovationThe aim of operational innovation is to reinforce the market principle in the creditguarantee system, to build up a risk-based operating system, and ultimately achieve financialself-sustainability. To this aim, KODIT plans to reduce outstanding guarantee by KRW 1 trillionannually to reach KRW 25 trillion in 2010. Second, it will gradually replace long-term or largesumguarantee with guarantee for innovative or growing enterprises. Third, it will reduceoverall default rate by inducing a long-term installment payment product and implementinginnovative guarantee investigation, etc. KODIT will also reasonably divide the burden ofguarantee market participants, through differentiated guarantee coverage ratio and guarantee feerange, and through increasing the contribution rate of financial institutions. As for riskmanagement, KODIT is going to build up an integrated risk management system by 2008,which will enable forecasting and controlling of operational risk factor and eventually enhancethe financial health. In performance management, KODIT introduced a balanced scorecardsystem and concluded performance contracts with senior managers to ensure responsibility inmanagement.B. Organizational innovationTo efficiently achieve the corporate objectives, the organization of head office has been cutdown, while the functions of business headquarters have been strengthened. The head officewas reorganized based on its function from its former workload-oriented organization. While123

the number of department was reduced to 22 from 25, new strategic departments wereestablished, which are Innovation Strategy Office, Performance Evaluation Department,Business Development Office, and Industry Research Department. Branch offices wereregrouped under the business headquarter system to boost the local-based business, and thesenior directors of business headquarters were entrusted with the right of personnelmanagement. In addition, Hi-plus Teams were installed for a more efficient risk management.Hi-plus teams, which are responsible for the guarantees surpassing KRW 1 billion, specialize inlarge-sum guarantee.C. Personnel innovationPersonnel system focuses both on ability-oriented management and performance-orientedcompensation, which differs from a former seniority system. Organization will be groupedaccording to positions and duties, and the difference in remuneration according to employee’sperformance will be widened. Appraisals based on seniority system will be cut down, and eachemployee will be given rotational duties according to his ability and performance.VIII. ConclusionKODIT has experienced the ups and downs of the Korean economy since its establishmentin 1976. It provided credit guarantees for market stabilization at every economic crisis andserved as a driving force of the economic growth of Korea. The major contributions of KODITcan be summarized as follows. First, KODIT supported SMEs financing by guaranteeing theircredit. Credit guarantee alleviates the discrimination between SMEs and large enterprises in thefinancial market and enhances efficiency in the allocation of financial resources. Also bysupporting SMEs, the driving force of the future economy, it promotes economic vitality.Second, KODIT contributed to building up a credit-based society. Through its unique approvalprocess focusing on intangible resources of SMEs rather than its collateral, KODIT hasfacilitated credit-based commercial transaction and enhanced credit management ability ofenterprises. Third, KODIT contributed to balanced growth of the Korean economy. Bysupporting the financing of SMEs that lag behind large enterprises, it eases the inequalitybetween SMEs and large enterprises.The successful operation of KODIT of the last 30 years has become a benchmarking targetof countries around the world. During the first half year of 2006, KODIT introduced its credit124

Korea Credit Guarantee Fund and Its Contribution to the Korean Economypp. 97-126guarantee services to individuals and governmental entities of 13 countries, including theEuropean Mutual Guarantee Association, Office of Small and Medium Enterprises Promotion ofThailand, Association of Small and Medium Businesses of Vietnam, etc. Through continuousinnovation efforts, KODIT aims to contribute to Korean economic growth as ever. And at thesame time, KODIT will continue to support countries in need of a credit guarantee systemthrough further international exchange and cooperation.ReferencesGreen, Anke, 2003. Credit Guarantee Scheme for Small Enterprises : An Effective Instrument toPromote Private-Sector-Led Growth? United Nations Industrial Development Organization,SME Technical Working Paper Series No. 10.Kim, Sung Jin (ed.), 2006. The Small and Medium Enterprises of Korea, Seoul : MaekyungPublishing.KODIT, 1998. Credit Guarantee Programs of the World.KODIT, 2006. Credit Guarantee Programs of the World.KODIT, 1996. The 25 Year History of Korea Credit Guarantee Fund 1976-1996.KODIT, 2005. Annual Report 2004.KODIT, 2005. Analysis on the Contributions of KODIT to the National Economy.KODIT, 2006. Annual Report 2005.KODIT, 2006. Annual Statistics of KODIT.KODIT, 2006. Changes and Innovations of KODIT.KODIT, 2006. Guide to Operations of KODIT.KODIT, 2006. Report on the Performance of KODIT.KODIT, 2006. The 30 Year History of KODIT 1976-2006.Korea Federation of Small and Medium Business, 2006. Statistics on SME.KIET, (Korea Institute for Industrial Economics and Technology), 2001. Benefits of CreditGuarantee and Direction for Future Development of Korea Credit Guarantee Fund.KIPF, (Korea Institute of Public Finance), 2003. Performance of Credit Guarantee System and125

Optimal Governmental Contribution for the System.Korea National Statistical Office, 2005. Basic Business Statistics Almanac.Vogel, Robert and Adams, Dale, 1997. Costs & Benefits of Loan Guarantee Programs, TheFinancier, 4(1&2).126