Research on the Effects of the Credit Card Industry on the Korean Economy

Research on the Effects of the Credit Card Industry on the Korean Economy
Research on the Effects of the
Credit Card Industry
on the Korean Economy




                        This report is a joint report published
                        by Samil PwC and KAIST Graduate
                        School of Management's Professor
                        Namgyoo Park (and team),
                        comissioned by Visa International
                        Asia Pacific.

                        Visa and the authors acknowledge the
                        assistance provided by the Credit Finance
                        Association (CREFIA) in the preparation of
                        this report

                        April, 2006
Research on the Effects of the Credit Card Industry on the Korean Economy
Table of Contents

Welcome                                                                2

Executive Summary                                                      3

1. Research Background                                                 6

2. Effects of the Credit Card Industry on the Korean Economy           10
      2-1. Enhanced Transaction Transparencies                         11
           through Credit Card Usage
      2-2. Increased Tax Revenue                                       13
           through Credit Card Usage
      2-3. Increase in Deposits of Financial Institutions              17
           through Credit Card Usage
      2-4. Development of Directly and Indirectly Related Industries   20
           through the Credit Card Industry

3. Conclusion – Contributions to GDP                                   27

4. Appendix                                                            31

5. References                                                          37
Research on the Effects of the Credit Card Industry on the Korean Economy
welcome 2




                                                                      Welcome

The payments industry in Korea has come a long way in a relatively short time. It has transformed
the way Koreans buy and sell goods and services. The existence of a sophisticated and flexible
payments system has also been a key factor underpinning Korea’s strong economic performance
in recent years. By supporting consumer spending it has fueled domestic growth, and by allowing
for easy travel by Koreans overseas and foreign visitors to Korea it has boosted tourism and
international commerce.

Through the operations of Visa, its members and technology partners, Korea has established an
electronic payments system that leads the world in technological innovation. Korea’s domestic
system is especially highly advanced in the use of contactless and chip cards, and the leader in
mobile payment. Furthermore, Korean companies are now successfully exporting these technologies
to many other countries.

Despite the remarkable progress, some have voiced criticism of the Korean credit card industry,
claiming that widespread use of payment cards has led to over consumption and negative
economic impacts. This report strives to shed new light on such negative perceptions by
investigating the Korean credit card industry both statistically and qualitatively.

This report is a contribution by Visa to the Korean credit card industry; revealing not only an
economic infrastructure that has contributed to the significant increase in transaction transparency,
tax revenue, and deposits, but is also a driving force that accelerates the development of directly
and indirectly related industries. Moreover, the Korean Government’s policy of fostering credit
card usage and the experience of the Korean credit card industry could be considered a meaningful
case study for other countries. The credit card industry, combined with the recent establishment
of the Credit Bureau, is expected to play an essential role in advancing the Korean financial sector
as well as developing the national economy.

This report was prepared to review and assess positive aspects in promoting widespread usage
of cards by consumers. As a result, this report is not intended to present potential risk in identifying
and solving potential adverse impact on respective risk of various kinds. Potential risk should be
assessed to minimize the risk of the industry and each country before introducing similar practices.

We hope that this report may help eliminate the negative perception of the Korean credit card
industry and further contribute to the establishment of a desirable culture of consumption and
payment transactions.

We look forward to playing our full part in the discussions that lie ahead.




Young Chong Kim
Country Manager Korea
Visa International
Research on the Effects of the Credit Card Industry on the Korean Economy
executive summary 3




Executive Summary
Research on the Effects of the Credit Card Industry on the Korean Economy
executive summary 4




In 2004, the Korean credit card industry recorded 358 trillion KRW in credit card spending
and 20.4 billion credit card transactions, becoming the largest in the Asia-pacific region, and
comparable in size to those in major developed countries. This research demonstrates some
positive contributions the Korean credit card industry has made to Korea’s sound economic
development. This research shows that the Korean credit card industry generated a 21.5 trillion
KRW worth of value for the national economy in 2002 when it reached its peak. It also
contributed to the significant increases in transaction transparency, tax revenue, and deposits.
Furthermore, it accelerated the development of directly and indirectly related industries,
establishing a foundation for a new era in the Korean financial sector.


           Enhanced Transaction Transparency               Increased Tax Revenue through Credit
           through Credit Card Usage                       Card Usage

           In order to examine whether the                 This study examines whether the
           development and expansion of the credit         development and expansion of the credit
           card industry promotes transaction              card industry decreases the potential to
           transparency, revenue data was collected        under-report revenue, which eventually
           from 54 merchants in four sectors:              contributes to increases in tax revenue. In
           educational academies, hospitals, gas           order to investigate the above
           stations, and restaurants. These sectors        relationships, this study collected data on
           were selected because they have high            value added tax payments and total credit
           potential to under-report revenue, due to       card spend in the restaurant, retail, and
           the fact that a high proportion of their        service sectors from 1990 to 2003.
           revenue is paid in cash. The ratio of credit    Statistical analysis shows that credit card
           card payments over total revenue has            spend significantly increased value added
           increased steadily since 2000, which            tax payment in these sectors. Specifically,
           ultimately decreased the potential to           a 1% increase in credit card spend leads
           under-report revenues in those sectors.         to a corresponding increase in value added
                                                           tax of up to 1.56%. These empirical
           This study also investigates whether            findings show that credit card usage
           Korean firms increased credit card spend        contributes to an increase in tax revenue
           for their entertainment expense payments        in the national economy. Thus, the credit
           after the introduction of the government        card industry provides a foundation for
           policies to promote credit card usage.          the sound development of the national
           Detailed expense data were collected from       economy.
           40 companies from 1995 to 2004. The
           results show that the proportion of credit
           card usage for entertainment expenses
           continuously increased from 1995 to 2003,
           which subsequently increased the ratio of
           credit card spend over total revenue in the
           various sectors in Korea; including bars,
           restaurants, and golf clubs. Thus, this study
           verifies that the credit card industry has
           enhanced transparency in corporate
           entertainment expenses. In consequence,
           it increased transparencies of the reported
           revenues in those sectors.
Research on the Effects of the Credit Card Industry on the Korean Economy
executive summary 5




Increase in Deposits of Financial             Development of Directly and Indirectly
Institutions through Credit Card Usage        Related Industries through the Credit
                                              Card Industry
In order to study whether the propagation
of the credit card industry can increase      This research analyzed primary and
the deposits of various financial             secondary data to examine the impact of
institutions, this report, using quarterly    the credit card usage on various directly
data from 1994 to 2004, analyzed the          and indirectly related industries. The
relationships between the currency index,     results show that an increase in credit
credit card purchases and cash advance        card usage has made possible the fast
usage. The empirical findings show that       growth and rapid activation of various
credit card usage significantly increased     directly related industries; including VANs
deposits of non-monetary banks while          (Value Added Networks), POS (Point of
cash advance usage did not. From the          Sale) terminal manufacturers, PGs
statistical perspective, an increase of 1%    (Payment Gateways), and Public Key
in credit card purchases led to a 0.13%       Infrastructure services. The total net value
increase in deposits. Such results show       added created by firms participating in
that an increase in credit card usage         the card market is estimated at 21.19
decreases individuals’ need for cash,         trillion KRW in 2002. In addition, the total
leading to a subsequent increase in the       revenue of these directly related industries
amounts on deposit. In terms of the           had grown from 36.3 billion KRW in 1998
national economy, this research shows         to 358 billion KRW in 2002.
that the declining need of various
economic entities for cash will eventually    Indirectly related industries such as e-
increase the amount on deposit in financial   commerce, leisure & travel, and
institutions, which could enhance liquidity   entertainment are also experiencing
in the national economy and further foster    continuing growth due to the convenient
economic growth and development.              purchasing process which credit cards and
                                              other value added services allow. It is very
                                              challenging to quantify the economic value
                                              added by such indirectly related industries.
                                              However, from the data collected, we can
                                              see that Korea’s credit card industry
                                              significantly contributed to the growth of
                                              these indirectly related industries.
Research on the Effects of the Credit Card Industry on the Korean Economy
research background 6




Research Background
Research on the Effects of the Credit Card Industry on the Korean Economy
research background 7




                                          While credit cards were first introduced                                                                        Credit Card Spend
                                                                                                                                                      - Major Asia-Pacific Nations
                                          to the United States in 1950, they were                                            250
                                          not introduced to Korea until the 1970s




                                                                                            Credit card spend (US$ in billion)
                                          and even then they were only available to                                          200

                                          certain wealthy classes of people. The
The Korean                                Credit Card Business Act of 1987 provided
                                                                                                                             150

government policies                       a foundation for the regulation and                                                100
to promote credit                         development of the Korean credit card
card usage since                          industry. Samsung Card Co., Ltd and LG                                                 50
                                          Card Co., Ltd were the first to offer cards
1995 triggered the
                                          under the new system beginning in 1988,                                                0
explosive growth of                       and thereafter the Korean credit card




                                                                                                                                      96

                                                                                                                                             97

                                                                                                                                                     98

                                                                                                                                                           99

                                                                                                                                                                  00

                                                                                                                                                                          01

                                                                                                                                                                                 02

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                                                                                                                                                                                               04
                                                                                                                                      19

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                                                                                                                                                                                      20

                                                                                                                                                                                             20
the Korean credit                         industry has made remarkable progress                                                                      Korea                     Australia
                                                                                                                                                     Hong Kong                 Singapore
card industry                             both qualitatively and quantitatively.
                                                                                                                                               Total Number of Credit Card Transactions
                                          As shown in [Figure 1], current annual                                                 25
                                                                                                                                                      - Major Asia-Pacific Nations

                                          credit card spend in Korea amounts to
                                          US$201.1 billion (230 trillion KRW,                                                    20




                                                                                        Number of transactions
                                          excluding cash advances), which is


                                                                                         (hundred thousands)
                                          considerably higher than other Asia Pacific                                            15

                                          markets such as Australia’s US$ 92.6
                                                                                                                                 10
                                          billion, and Hong Kong’s US$17.7 billion.
                                          In addition, in terms of the total number                                              5
                                          of transactions, Korea registered 2 billion
                                          transactions compared to just 950 million                                              0
                                          in Australia and 17 million in Hong Kong.                                                           2002                 2003                 2004
                                                                                                                                                     Korea                   Australia
                                          Considering the total GDP and total
                                                                                                                                                     Hong Kong               Singapore
                                          population, these facts clearly show that
                                                                                                                                      [Figure 1] Credit card spend and number of credit card
                                          Korea’s credit card industry has made                                                       transactions of major Asia-Pacific Nations
                                          much more significant progress both in                                                      (Source: Visa International, Korea Credit Finance Association)1

                                          size and speed than in other Asia-Pacific
                                          nation.




1Credit card spend does not include the total amount of cash advance,
and the amount has been converted into US$ denominations using the
average annual foreign currency exchange rate between KRW and US$.
Research on the Effects of the Credit Card Industry on the Korean Economy
research background 8




Korean government policies to promote                                                             700

credit card usage since 1995 [Table 1],                                                           600




                                                                Credit card spend(trillion KRW)
combined with the aggressive marketing                                                            500
activities of the Korean credit card
                                                                                                  400
companies, increased total credit card
                                                                                                  300
spend (which was about 43 trillion KRW
excluding cash advances in 1999) by an                                                            200
average annual growth rate of almost 90%                                                          100
from 1999 to 2002 [Figure 2]. This growth                                                          0
trend was also evident in cash advances,




                                                                                                   96


                                                                                                            97


                                                                                                                   98


                                                                                                                           99


                                                                                                                                  00


                                                                                                                                          01


                                                                                                                                                  02


                                                                                                                                                         03


                                                                                                                                                                04
lump sum payments, and installment




                                                                                                  19


                                                                                                          19


                                                                                                                  19


                                                                                                                           19


                                                                                                                                 20


                                                                                                                                        20


                                                                                                                                                20


                                                                                                                                                       20


                                                                                                                                                              20
                                                                                                              Lump-sum          Installment       Cash advance
payments.
                                                                                                        [Figure 2] Historical trend of credit card spend in Korea
                                                                                                        [1996~2004]
                                                                                                        (Source: Korea Credit Finance Association)



   Major Policies \ Year                               ~ 1994                                                 1995 ~ 1998                       1999 ~

       Restrictions on the
     maximum proportion of                             Within                                                     Within                        Within
      revenues from cash                               60%                                                        50%                           50%
            advance

     Limits on cash advances                                                                                   Restrictions                    Re-
                                                    Restrictions
      amount for individuals                                                                                    abolished                 introduction

         Restrictions on                                                                                                                      Restriction
                                                        No                                                         No
     recruitment methods of                                                                                                                    on street
                                                    restrictions                                               restrictions
    new credit card members                                                                                                                   promotions

    Ratio of mandatory credit
                                                                                                                                           Reinforced,
     card usage on corporate
                                                   Implemented                                                 Reinforced                  abolished in
     entertainment expenses
                                                                                                                                              2002
   (for more detail, see Table 2)

    VAT credit for credit card
   spend (1% rebate of the total                   Implemented                                                   Sustained                    Increased
   VAT payments for merchants)

      Income deductions for
         credit card spend
   (Income deduction for 10% of                            -                                                           -                  Implemented
    total credit card spend that
  exceed 10% of annual income)

  Mandatory credit card usage
   on entertainment expense                                -                                                           -                  Implemented
    exceeding 50,000 KRW

     Using credit card receipts
          as lottery tickets
     (Monthly drawing with the                             -                                                           -                  Implemented
      1st prize money of 1000
            million KRW)

[Table 1] Major Korean government policies related to the credit card industry
Research on the Effects of the Credit Card Industry on the Korean Economy
research background 9




                                                               However, the rapid expansion in cash                                                                Therefore, this research strives to analyze
                                                               advances and card loan services by most                                                             both objectively and systematically the
                                                               Korean credit card companies increased                                                              effects of the credit card industry on the
                                                               the delinquency rate in the Korean                                                                  Korean national economy. More
                                                               financial system, producing more than 2                                                             specifically, this research examines the
The so-called credit                                           million credit defaulters since 2002. This                                                          contributions of the credit card industry
card crisis of 2002                                            economy-wide phenomenon gave birth to                                                               to GDP growth, transaction transparency,
intensified negative                                           the term “Credit Card Crisis” and some                                                              increases in tax revenue, increases in
perceptions about                                              credit card companies had to rely on public                                                         deposits, and development of directly and
                                                               funds to sustain their operations.                                                                  indirectly related industries.
the credit card
industry                                                 900                                                           300
                                                         800                                                                                                                             Korean National




                                                                                                                             Credit card spend(Trillions in Won)
                                                                                                                       250                                                                  Economy
                                                         700
                                    GDP (trillion KRW)




                                                         600                                                           200
                                                         500
                                                                                                                       150                                                             Contribution to GDP
                                                         400
                                                         300                                                           100
                                                                                                                                                                     Improvement Increase in Increase in Development
                                                         200
                                                                                                                        50                                          in Transaction   Tax     Deposits of of Directly
                                                         100                                                                                                         Transparency Revenue     Financial and Indirectly
                                                          0                                                             0                                                                    Institutions  Related
                                                                                                                                                                                                          Industries
                                                                           98




                                                                                        00

                                                                                              01




                                                                                                                04
                                                               96




                                                                                                    02

                                                                                                          03
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                                                                     97

                                                                          19




                                                                                      20

                                                                                             20




                                                                                                               20
                                                              19




                                                                                                   20

                                                                                                         20
                                                                                19
                                                                    19




                                                                               GDP         Credit card spend
                                                                                                                                                                                Development & Expansion of the
                                                               [Figure 3] Historical trend of GDP and credit card spend                                                              Credit Card Industry
                                                               (Source: Bank of Korea, Korea Credit Finance Association)2


                                                               This so-called “Credit Card Crisis” was a                                                           [Figure 4] Effects of the credit card industry on national
                                                                                                                                                                   economy
                                                               temporary phenomenon caused by
                                                               excessive competition between credit card
                                                               firms and the very rapid development and
                                                               expansion of the government policy on
                                                               credit card usage. In particular, as shown
                                                               in [Figure 3], from 1999 to 2002, credit
                                                               card spend has significantly exceeded the
                                                               GDP growth rate. As the domestic credit
                                                               card industry begins to stabilize its
                                                               operations and competitive activities,
                                                               objective investigation of the various
                                                               contributions of the credit card industry
                                                               to the Korean national economy is
                                                               worthwhile.




2The total amount of credit card spend does not
include cash advances and credit card loan services.
effects of the credit card on the Korean industry 10




Effects of the Credit
Card Industry on the
Korean Economy
effects of the credit card on the Korean industry 11




                                                              2.1 Enhanced Transaction Transparency                                                           Economic transparency, in general, may
                                                              through Credit Card Usage                                                                       be enhanced by the advancement of
                                                                                                                                                              financial institutions and systems as well
                                                              A strong underground economy generally                                                          as stronger reinforcement of government
                                                              inhibits the sound growth of a nation’s                                                         inspections and regulations. The
The use of credit                                                                                                                                             development of the credit card industry,
                                                              economy, weakens the foundation of
cards increases                                               taxable income, and makes economic                                                              as part of the financial system
transparency in                                               predictions and planning challenging.                                                           development, can also play a major role
economic activities                                           Hence most countries make various                                                               in promoting economic transparency. This
                                                              attempts to foster economic transparency                                                        section analyzes the extent to which the
                                                              by minimizing the size of underground                                                           Korean credit card industry has affected
                                                              economies.                                                                                      the transaction transparency of
                                                                                                                                                              corporations and sole proprietors.
                                                              As shown in [Figure 5], LG Economic
                                                              Research Institute (LGERI) estimates that                                                       Revenues are obvious performance
                                                              the Korean underground economy had                                                              indicators for both corporations and sole
                                                              increased to approximately 50 trillion                                                          proprietors, which become the basis of
                                                              KRW by 2000. However, the proportion                                                            income taxes. In order to examine whether
                                                              of the underground economy compared                                                             the development and expansion of the
                                                              to the total GDP, which amounted to                                                             credit card industry promotes transaction
For both                                                      27.7% in the 70s, has steadily declined.                                                        transparency among economic bodies,
corporations and                                              These trends show that there has been a                                                         this research collected revenue data from
merchants, the                                                general increase in economic transparency                                                       54 merchants in four sectors: educational
                                                              in Korea during the last few decades.                                                           academies, hospitals, gas stations, and
proportion of credit                                                                                                                                          restaurants. This study tracked their total
card sales in total                             140                                                                 35%
                                                                                                                                                              sales from 2000 to 2004 and analyzed
                                                                                                                          Underground economy as a % of GDP




sales is                                                                                                                                                      the change in percentage of credit card
                       Size of the underground economy




                                                120                                                                 30%

continuously                                    100                                                                 25%                                       sales.
                                  (billion USD)




increasing                                               80                                                         20%

                                                         60                                                         15%

                                                         40                                                         10%

                                                         20                                                         5%

                                                         0                                                          0%
                                                               4


                                                                      9


                                                                             4


                                                                                    9


                                                                                           2


                                                                                                  7


                                                                                                         9


                                                                                                                3
                                                              ~7


                                                                    ~7


                                                                           ~8


                                                                                 ~8


                                                                                        ~9


                                                                                               ~9


                                                                                                      ~9


                                                                                                             ~0
                                                          70


                                                                   74


                                                                          80


                                                                                 85


                                                                                        90


                                                                                               93


                                                                                                      98


                                                                                                             00
                                                     19


                                                                 19


                                                                        19


                                                                               19


                                                                                      19


                                                                                             19


                                                                                                    19


                                                                                                           20




                                                                         Estimated underground economy
                                                                         Underground economy as a % of GDP
                                                              [Figure 5] Estimated size of Korea’s underground economy
                                                              (Source: LG Weekly Economy 2001.04.25, LG Economic
                                                              Research Institute)
effects of the credit card on the Korean industry 12




                                                               70%
                                                                                                                                         Unlike other corporate expenses,
                                                                                                                             58%
                                                               60%                                 57%          57%
                                                                                                                                         entertainment expenses have been
                                                                                      50%
                                                                                                                                         typically perceived as being the most

                                      Percentage of Revenue
                                      Credit Card Sales as a
                                                               50%
                                                                         43%                                                 42%

                                                               40%                     37%
                                                                                                   41%           41%
                                                                                                                                         difficult in terms of enforcing transparency
                                                                                                                                         since the nature of the transaction itself
Credit card use for
                                                                         31%
                                                               30%
                                                                                                                                         makes it challenging to keep clean records.
corporate                                                      20%
                                                                                                                                         Therefore, corporate entertainment
entertainment                                                  10%       5%
                                                                                       8%           8%           9%           9%
                                                                                                                                         expenses have contributed heavily to the
expenses is                                                    0%                                                                        expansion of the underground economy.
                                                                        2000          2001         2002         2003          2004       In order to alleviate this situation, the
continuously                                                                     Hospital sector          Non-hospital sector            Korean government adopted and
increasing                                                                       Total
                                                                                                                                         reinforced a policy wherein the use of
                                                                     [Figure 6] Historical trends in credit card sales as a percentage
                                                                     of revenue for sole proprietors                                     credit cards is mandatory when paying for
                                                                     (Source: Tax return of sampled merchants)                           entertainment expenses exceeding a
                                                                                                                                         certain amount [Table 2].
                                                                     [Figure 63] shows the change in revenue
                                                                     for sole proprietors and the percentage of
                                                                     credit card sales with respect to total sales.                        •    In 1991, the Korean government introduced
                                                                     We investigate these sectors because they                                  a mandatory credit card usage policy on
                                                                                                                                                corporate entertainment expenses (For
                                                                     are traditionally well known for high
                                                                                                                                                large firms, 40% of their entertainment
                                                                     potential to under-report their sales. The                                 expenses should be paid by credit cards
                                                                     figure shows that the percentage of credit                                 and for small and medium firms, 30%)
                                                                     card sales has steadily increased from
                                                                                                                                           •    In 1995, the Korean government increased
                                                                     31% in 2000 to 42% in 2004. The non-                                       the ratio to 75% for firms in Seoul, 60%
                                                                     hospital sector, in particular, experienced                                for those in metropolitan cities, 40% for
                                                                     a similarly rapid growth of credit card sales                              those in other cities
                                                                     from 43% in 2000 to 58% in 2004. While                                •    In 1999, the Korean government introduced
                                                                     we could find very similar patterns of                                     a mandatory credit card usage policy on
                                                                     change in educational academies, gas                                       corporate entertainment expense
                                                                     stations, and restaurants, the hospital                                    exceeding the amount of 50,000 KRW. If
                                                                     sector has shown an exceptionally low                                      the requirement is not met, there will be
                                                                                                                                                no expense benefits. The Korean
                                                                     proportion of credit card sales. Unlike                                    government again increased the ratio to
                                                                     other sectors, most of the payments in                                     80% for firms in Seoul, 70% for those in
                                                                     the hospital sector are petty payments                                     metropolitan cities, 60% for those in large
                                                                     because most medical expenses are                                          cities, and 50% for those in other areas
                                                                     covered by insurance. Due to the nature                               •    In 2002, the Korean government sustained
                                                                     of these transactions, the percentage of                                   the mandatory credit card usage policy on
                                                                     credit card sales is comparatively small                                   corporate entertainment expenses
                                                                     but it is nevertheless increasing at a steady                              exceeding the amount of 50,000 KRW but
                                                                                                                                                repealed the mandatory ratios
                                                                     pace. An increase in credit card usage may
                                                                     signify that sole proprietors will have fewer
                                                                                                                                         [Table 2] Major Korean government policies related payments
                                                                     opportunities to deliberately under-report                          of corporate entertainment expenses
                                                                     their sales. In summary, the increase in
                                                                     credit card sales will make the process of
                                                                     tampering sales data more difficult and
                                                                     subsequently decrease the size of the
                                                                     underground economy, promoting
                                                                     economic transparency in Korea.




3The Korean government introduced various policies to promote credit card use during
1998~1999, especially after the Korean financial crisis. We cannot confirm whether
the credit card usage ratio was very low during the early stages of the policy introduction.
This is because the record keeping for most merchants are usually limited to the
maximum of 5 years. Thus, we investigated data from 2000 to 2004 only.
effects of the credit card on the Korean industry 13




                            0.50%                                                            90%
                                                                                                                                 2.2 Increases in Tax Revenue through
                            0.45%                                                            80%
                                                                                                                                 Credit Card Usage




                                                                                                  Entertainment expense as a %
                            0.40%                                                            70%

% of credit card spend in
                            0.35%
                                                                                             60%
                                                                                                                                 This section investigates how the Korean
     entertainment
                            0.30%




                                                                                                            of revenue
                                                                                             50%
                            0.25%
                                                                                             40%
                                                                                                                                 government policies for the credit card
                            0.20%
                                                                                             30%
                                                                                                                                 industry affect changes in tax revenue.
                            0.15%
                                                                                             20%
                                                                                                                                 Due to the fact that there are a number
                            0.10%
                            0.05%                                                            10%
                                                                                                                                 of sources that determine total tax
                            0.00%                                                            0%
                                                                                                                                 revenue, factors that had little direct
                                                                                                                                 relationship with credit card usage, such
                                      95




                                                  97




                                                                                   03
                                                             99




                                                                        01
                                    19




                                                19




                                                                                 20
                                                           19




                                                                      20
                                           Entertainment expense as a % of revenue
                                                                                                                                 as corporate income tax and direct tax,
                                           % of credit card spend in entertainment expense                                       were not included in the analysis. However,
                                    [Figure 7] Historical trends showing % of credit card spend                                  value added tax (VAT) is predicted to
                                    in entertaiment expense and entertainment expense as a %
                                    of revenue
                                                                                                                                 show the most sensitivity to changes in
                                    (Source: Financial statements and tax returns for sampled                                    accurate recording of sales. As VAT is an
                                    corporations)
                                                                                                                                 indirect tax, with minimum tax revolts and
                                                                                                                                 comparatively low risk involved with
                                    Detailed expense data was collected from
                                                                                                                                 collection, the impact of credit card usage
                                    a random sample of 40 companies from
                                                                                                                                 on the increase in tax revenue can be
                                    1995 to 2004. Our analysis revealed that
                                                                                                                                 demonstrated more effectively. This
                                    the amount of entertainment expenses
                                                                                                                                 section empirically investigates whether
                                    with respect to total sales has been
                                                                                                                                 the development and expansion of the
                                    gradually decreasing since 1995. At the
                                                                                                                                 credit card industry eventually contributes
                                    s a m e t i m e , t h e p e rc e n t a g e o f
                                                                                                                                 to an increase in tax revenue. This study
                                    entertainment expenses paid by credit
                                                                                                                                 collected data on VAT payments and total
                                    card has been on a steady increase,
                                                                                                                                 credit card spend in the restaurant, retail,
                                    exceeding 80% by the year 2003. Such
                                                                                                                                 and service sectors from 1990 to 2003
                                    trends indicate that the expansion of the
                                                                                                                                 where credit card payment can be
                                    credit card industry, accelerated by the
                                                                                                                                 expected to constitute a high proportion
                                    Korean government policy of mandatory
                                                                                                                                 of total sales.
                                    credit card usage, has enhanced economic
                                    transparency over the last decade. These
                                                                                                                                 Since the scale of the indirect tax change
                                    findings are also statistically valid (t-test:
                                                                                                                                 is affected not only by credit card spend
                                    significance level of 95%).
                                                                                                                                 but also by the overall economic trends,
                                                                                                                                 our statistical analysis incorporated both
                                    Due to the nature of the underground
                                                                                                                                 credit card spend and GDP growth rate
                                    economy, it is very difficult to measure its
                                                                                                                                 when analyzing their impacts on VAT
                                    overall magnitude and to cover all
                                                                                                                                 payment.
                                    individual activities. However, the increase
                                    in credit card usage is leading to enhanced
                                    transaction transparency in corporations.
                                    Moreover, credit card payments made to
                                    sole proprietors can also be seen as a
                                    factor that contributed to reducing the
                                    size of the underground economy.
effects of the credit card on the Korean industry 14




                                                         2.0                                                                    As shown in [Figure 8], VAT payments in
                                                                                                                                the restaurant sector are more affected
                                                         1.5                                                                    by changes in credit card spend than GDP.
                                                                                                                                Statistical analysis shows that while
                                                                                                                                changes in GDP were not significant, credit
1% increase in                                           1.0
                                                                                                                                card spend significantly increased VAT
credit card spend                                                                                                               payment in this sector. Specifically, we
                                                         0.5
increased VAT                                                                                                                   found that a 1% increase in credit card
payments up to                                                                                                                  spend will increase VAT payments by
                                                         0.0
                                                                                                                                0.05% to 1.56% in the restaurant sector
1.56% in the
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                                                                                                                                (Significance level: 95%). These findings
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restaurant sector                                        -0.5                    GDP growth rate                                imply that the government policy of
                                                                                 Growth rate of credit card spend
                                                                                 Growth rate in VAT payments in the
                                                                                                                                promoting the credit card industry made
                                                                                 restaurant sector                              most revenues of this sector exposable to
                                                                                                                                the tax collection system.
                                                                  Growth rates in VAT payments in the restaurant sector
                                                                                  and credit card spend
                    Growth rate of VAT payments in the




                                                         1.6
                             restaurant sector




                                                         1.1


                                                         0.6


                                                         0.1


                                                         -0.4
                                                           -0.4                0.1             0.6             1.1        1.6
                                                                                 Growth rate of credit card spend


                                                                           Growth rates in VAT payments in the
                                                                               restaurant sector and GDP
                                                     2.0
                    Growth rate of VAT payments in




                                                     1.5
                        the restaurant sector




                                                     1.0


                                                     0.5


                                                     0.0


                                                  -0.5
                                                     -0.10                     -0.05          0.00            0.05    0.10
                                                                                        GDP growth rate

                                                                [Figure 8] Relationships between growth rates of GDP,
                                                                credit card spend and VAT payments in the restaurant
                                                                sector
                                                                (Source: KAIST analysis, Bank of Korea, Yearly report on
                                                                national tax statistics)
effects of the credit card on the Korean industry 15




                                                     1.4                                                                                   The VAT payments made by small retailers
                                                     1.2                                                                                   show similar patterns to that of credit card
                                                     1.0                                                                                   spend. Statistical analysis shows that
                                                                                                                                           credit card spend significantly increased
                                                     0.8
                                                                                                                                           VAT payment in this sector. Specifically,
1% increase in                                       0.6
                                                                                                                                           while changes in GDP were not significant,
credit card spend                                    0.4                                                                                   a 1% increase in credit card spend has
increased VAT                                        0.2                                                                                   increased VAT payment in the retail sector
payments up to                                       0.0
                                                                                                                                           by 0.07 to 0.50% (Significance level:
                                                                                                                                           95%). Hence, these findings show that
0.50% in the
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                                                  -0.2
                                                                                                                                           the government policy of promoting the
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retail sector                                     -0.4                   GDP growth rate                                                   credit card industry increased VAT
                                                                         Growth rate of credit card spend
                                                                         Growth rate of VAT payments in the retail sector                  payments in the small retail sector.
                                                                         Growth rates in VAT payments in the retail
                                                                               sector and credit card spend
                                                         0.5
                    Growth rate of VAT payments in the




                                                         0.4
                               retail sector




                                                         0.3


                                                         0.2


                                                         0.1


                                                           0
                                                          -0.4                0.1               0.6               1.1               1.6
                                                                                Growth rate of credit card spend


                                                                              Growth rates in VAT payments in
                                                                                 the retail sector and GDP
                                                         0.5
                    Growth rate of VAT payments in the




                                                         0.4


                                                         0.3
                               retail sector




                                                         0.2


                                                         0.1


                                                         0.0
                                                          -0.10               -0.05             0.00              0.05              0.10
                                                                                           GDP growth rate

                                                               [Figure 9] Relationships between GDP growth rates, credit
                                                               card spend and VAT payment in the retail sector
                                                               (Source: KAIST analysis, Bank of Korea, Yearly report on
                                                               national tax statistics)
effects of the credit card on the Korean industry 16




                                                                       1.4                                                                               As shown in [Figure 10], VAT payments
                                                                       1.2                                                                               in the service sector very much resemble
                                                                       1.0                                                                               patterns of change of the GDP and credit
                                                                                                                                                         card spend. Our statistical analyses show
                                                                       0.8
                                                                                                                                                         that a 1% increase in GDP increases VAT
1% increase in                                                         0.6                                                                               payments in the service sector by 0.45%
credit card spend                                                      0.4                                                                               to 4.06% (Significance level: 95%), and
increased VAT                                                          0.2                                                                               a 1% increase in credit card spend
payments up to                                                                                                                                           increases VAT payments by -0.04% to
                                                                       0.0
                                                                                                                                                         0.40% (Significance level: 95%4). These
0.40% in the
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                                                                       -0.2                                                                              findings also reveal that the government
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service sector                                                         -0.4                        GDP growth rate                                       policy of promoting the credit card
                                                                                                   Growth rate of credit card spend
                                                                                                   Growth rate of VAT payments in                        industry increased VAT payments in the
                                                                                                   the service sector                                    service sector.
                                                                                         Growth rates in VAT payments in the
                                                                                         service sector and credit card spend                            In conclusion, our statistical analyses show
                                                                       0.6
                                                                                                                                                         that a 1% increase in credit card spend
                                                                       0.5
                                  Growth rate of VAT payments in the




                                                                                                                                                         increases VAT payments up to 1.56% in
                                                                       0.4
                                                                                                                                                         the restaurant sector, 0.50% in the small
                                                                       0.3                                                                               retail sector, and 0.40% in the service
                                            service sector




                                                                       0.2                                                                               sector. These findings demonstrate that
                                                                       0.1                                                                               the development and expansion of the
                                                                       0.0                                                                               credit card industry increases VAT
                                                                       -0.1                                                                              payment and eventually increases the
                                                                       -0.2                                                                              Korean national tax revenue.
                                                                          -0.4               0.1               0.6               1.1              1.6
                                                                                               Growth rate of credit card spend


                                                                                              Growth rates in VAT payments
                                                                                              in the service sector and GDP
                                                                       0.6
                                  Growth rate of VAT payments in the




                                                                       0.5

                                                                       0.4

                                                                       0.3
                                            service sector




                                                                       0.2

                                                                       0.1

                                                                       0.0

                                                                       -0.1

                                                                       -0.2
                                                                          -0.10              -0.05             0.00              0.05             0.10
                                                                                                          GDP growth rate

                                                                              [Figure 10] Relationships between growth rates of GDP, credit
                                                                              card spend and VAT payment in the service sector
                                                                              (Source: KAIST analysis, Bank of Korea, Yearly report on
                                                                              national tax statistics)




4Significant at 90% significance level (see appendix)
effects of the credit card on the Korean industry 17




                                              2.3 Increase in Deposits with Financial                                                               [Figure 11] shows the correlations between
                                              Institutions through Credit Card Usage                                                                cash currency, credit card spend, and cash
                                                                                                                                                    advance. We conducted regression
                                              Although the propagation of credit card                                                               analyses to examine how credit card spend
                                              use may not change the total amount of                                                                and cash advance affects cash currency.
1% increase in cash                                                                                                                                 According to the results, a 1% increase in
                                              cash in the economy, it may reduce the
advance increases                             need to keep cash for transactions and/or                                                             cash advance increased cash currency by
cash currency but                             precautionary motives, decreasing the                                                                 0.02~0.11% (Significance level: 95%) but
increase in credit card                       demand for money. In this case, the                                                                   increase in credit card spend did not have
                                              proportion of cash in circulation will                                                                a significant influence on cash currency.
spend didn’t have a
                                              decrease while the proportion of deposit
significant influence                         currency will increase. These processes
                                                                                                                                               2.5

on cash currency                              are expected to eventually increase                                                              2.0

                                              deposits in financial institutions. As of                                                        1.5
                                              2004, Korea’s M35 amounted to 1,286                                                              1.0
                                              trillion KRW, of which cash currency and
                                                                                                                                               0.5
                                              bank deposits amounted to approximately
                                                                                                                                               0.0
                                              500 trillion KRW while deposits held by
                                              non-bank depository institutions (demand




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                                              deposits, savings account, deposits of                                                           -1.0                          Growth rate of credit card spend
                                              mutual savings banks, deposits, deposits                                                                                       Growth rate of cash currency
                                                                                                                                                                             Growth rate of cash advance
                                              in foreign currency, money in trust,
                                              deposits of Korean securities finance                                                                                    Growth rates in cash advance amount
                                              corporation, etc.) exceeded 600 trillion                                                         0.5
                                                                                                                                                                                and cash currency

                                              KRW. In particular, deposits held by non-
                                                                                                                                               0.4
                                              bank depository institutions occupy the
                                                                                                                Growth rate of cash currency




                                              largest proportion of M3 currency, have                                                          0.3
                                              a comparatively lower liquidity, and
                                                                                                                                               0.2
                                              provide more opportunities for investment.
                                              This section therefore analyzed the effects                                                      0.1
                                              of credit card spend on cash currency,
                                                                                                                                                0
                                              demand deposits, and deposits of non-
                                              bank depository institutions6.                                                                   -0.1
                                                                                                                                                      -1        -0.5         0      0.5         1         1.5        2     2.5
                                                                                                                                                                        Growth rate of cash advance amount


                                                                                                                                                                       Growth rates of credit card spend and
                                                                                                                                               0.6                                cash currency
                                                                                                                Growth rate of cash currency




                                                                                                                                               0.4



                                                                                                                                               0.2



                                                                                                                                                0

                                                                                                                                                  -0.5                   0                0.5                1             1.5
                                                                                                                                               -0.2
                                                                                                                                                                          Growth rate of credit card spend

                                                                                                                                                      [Figure 11] Relationships between growth rates in credit
                                                                                                                                                      card spend, cash advance amount and cash currency
5The currency index in Korea has the three different categorizations, specifically M1, M2, and M3. M1                                                 (Source: KAIST analysis, Bank of Korea, Korea Credit
                                                                                                                                                      Finance Association)
includes cash and demand deposits. M2 includes M1 and savings accounts. M3 is the most comprehensive
of the three. M3 includes M2, financial bank debentures, deposits of non-bank depository institutions,
and certificates of deposits.

6During the research period, the interest rate (prime corporate bond rate with 3 year maturity) continuously
decreased from 12.42% in the first quarter of 1993 to 3.87% in the fourth quarter of 2004. While the rate
increased significantly during the end of 1997 till the beginning of 1998, it moved to the opposite direction
compared to other macro economic variables. Thus, during our research period, it is not reasonable to
assume that high interest rates will increase deposits. Therefore, in our research, we did not consider
interest rate variables when we analyzed changes in cash, demand deposit, and derivative money.
effects of the credit card on the Korean industry 18




                      The relationship between demand                                                2.5

                      deposits held by banks and variables                                           2.0
                      related to credit card spend are shown in                                      1.5
                      [Figure 12]. Cash advances seem to
                                                                                                     1.0
                      influence demand deposits more than
Credit card spend     credit card spend. In order to further                                         0.5
and cash advances     examine these multidimensional                                                 0.0
have no significant   relationships, we conducted regression




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                                                                                                                                                                         20
impact on demand      analyses. The findings show that demand
                                                                                                     -1.0                   Growth rate of credit card spend
                      deposits aren’t significantly influenced by
deposits of banks                                                                                                           Growth rate of demand deposits
                      both credit card spend and cash advances                                                              Growth rate of cash advance

                      in general.                                                                                      Growth rate in cash advance amount
                                                                                                                             and demand deposits
                                                                                                     0.8

                                                                                                     0.6




                                                                    Growth rate of demand deposits
                                                                                                     0.4

                                                                                                     0.2

                                                                                                      0

                                                                                                     -0.2

                                                                                                     -0.4

                                                                                                     -0.6
                                                                                                        -0.5              0               0.5               1             1.5
                                                                                                                              Growth rate of cash advance


                                                                                                                       Growth rate in credit card spend and
                                                                                                                                demand deposits
                                                                                                     0.8

                                                                                                     0.6
                                                                    Growth rate of demand deposits




                                                                                                     0.4

                                                                                                     0.2

                                                                                                      0

                                                                                                     -0.2

                                                                                                     -0.4

                                                                                                     -0.6
                                                                                                        -0.5              0               0.5               1             1.5
                                                                                                                            Growth rate of credit card spend

                                                                                                            [Figure 12] Relationships between growth rates in credit
                                                                                                            card spend, cash advance and demand deposits
                                                                                                            (Source: KAIST analysis, Bank of Korea, Korea Credit
                                                                                                            Finance Association)
effects of the credit card on the Korean industry 19




                        Finally, we examined how changes in cash                                   2.5

                        advances and credit card spend affected                                    2.0
                        deposits with non-bank depository                                          1.5
                        institutions [Figure 13]. Results from the
                                                                                                   1.0
                        regression analyses show that a 1%
1% increase in credit   increase in credit card spend increased                                    0.5
card spend              deposits in non-bank depository                                            0.0
increased deposits      institutions by 0.00~0.13% while a 1%




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with non-bank           increase in cash advances decreased
                                                                                                   -1.0                  Growth rate of credit card spend
                        deposits in non-bank depository
depository by                                                                                                            Growth rate of demand deposits in
                        institutions by 0.06~0.15% (Significance                                                         non-monetary banks
0.13%, but 1%           level: 95%).
                                                                                                                         Growth rate of cash advance

increase in cash                                                                                                       Growth rates in cash advance and
                                                                                                                        deposits in non-monetary banks
advance decreased       All the above results provide the following                                0.3

deposits with non-      key findings:                                                              0.25
                                                                                                   0.2




                                                                      Growth rate of deposits in
bank depository by      • Increases in credit card spend do not




                                                                        non-monetary banks
                                                                                               0.15
0.15%                     significantly influence cash currency,                                   0.1
                          nor demand deposits, but influence the                               0.05
                          increase in deposits in non-bank                                          0
                          depository institutions                                            -0.05

                        • Increases in cash advances cause an                                      -0.1

                          increase in cash currency, but have a                              -0.15
                                                                                                 -1             -0.5         0       0.5         1        1.5        2        2.5
                          tendency to decrease deposits in non-
                                                                                                                             Growth rate of cash advance
                          bank depository institutions
                                                                                                                     Growth rates in credit card spend and
                        • The phenomenon of increased deposits                                                         deposits in non-monetary banks
                                                                                                   0.3
                          due to increases in credit card spend
                                                                                                   0.25
                          further generates derivative money,
                                                                                                   0.2
                          subsequently provides the necessary
                                                                      Growth rate of deposits in
                                                                        non-monetary banks




                                                                                               0.15
                          liquidity for the national economy, and
                                                                                                   0.1
                          eventually promotes economic
                                                                                               0.05
                          activities
                                                                                                    0
                                                                                             -0.05
                                                                                                   -0.1
                                                                                             -0.15
                                                                                                 -0.5                    0                 0.5              1                 1.5
                                                                                                                            Growth rate of credit card spend

                                                                                                          [Figure 13] Relationships between growth rates in credit
                                                                                                          card spend, cash advance and deposits in non-monetary
                                                                                                          banks
                                                                                                          (Source: KAIST analysis, Bank of Korea, Korea Credit
                                                                                                          Finance Association)
effects of the credit card on the Korean industry 20




                     2.4 Development of Directly and                                            3-2. Wiring of     3-1. Wiring of
                                                                                                Approval           Approval
                     Indirectly Related Industries through
                     the Credit Card Industry                            Card-         Merchant              Van
                                                                                                                               Credit
                                                                                                                                Card
                                                                         holder         or PG              Operators          Company

The development of   The rapid growth of the Korean credit card              1. Purchase      2-1. Authorization 2-2. Authorization
                                                                                              Request            Request

the credit card      industry since 1995 affected not only the
                                                                                                                   4-1. Transfer of
                     credit card industry but also had                                                             Van Service Fee
industry may help    widespread impacts on directly and
                                                                        Bank
                                                                       Account
                                                                                            Bank
                                                                                           Account
                                                                                                            Bank
                                                                                                           Account
                                                                                                                                Bank
                                                                                                                               Account
growth of directly   indirectly related industries. In addition to
and indirectly       the firms that engage in the credit card                        4-2. Transfer of Purchase Amount (net of fee)

related industries   transaction process, various other                              5. Payment or Transfer of Purchase Amount

                     industries such as retail, electronic                           Transaction Flow
                     commerce, and travel and leisure are                            Money Flow (Flow of Economic Value)

                     closely related to the credit card industry.
                     This section examines the effects of the        [Figure 14] Credit card transaction process – purchases
                                                                     (Source: Korea Credit Finance Association)
                     credit card industry on directly and
                     indirectly related industries.                  [Figure 15] illustrates a typical cash
                                                                     advance process. When a customer
                     2.4.1 Transactions Processes Using Credit       requests cash service through Automated
                     Cards                                           Teller Machines (ATM), an approval
                                                                     request is typically forwarded to credit
                     In order to better comprehend industries        card companies through the Interbank
                     directly related to the credit card industry,   Shared Network. Cash advances depend
                     we provide detailed illustration of the         on the result of the authorization request.
                     credit card transaction processes for both
                     credit purchases and cash advances.                                        3-2. Transfer      3-1. Transfer
                     [Figure 14] illustrates the typical                                        of Approval        of Approval

                     transaction processes for payments made             Card-           ATM              Inter-bank           Credit
                                                                                                            Shared              Card
                     at stores using credit cards. In this credit        holder        Terminal
                                                                                                           Network            Company
                     purchasing process, as soon as customers                1. Cash          2-1. Authorization 2-2. Authorization
                     make a purchase at a store, POS terminals               Withdrawal       Request            Request

                     send transaction information to Value                                                         4-1. Network
                                                                                                                   Service Fee
                     Added Network (VAN) service providers.             Bank                  Shared Network                    Bank
                                                                       Account                   Account                       Account
                     In the case of small e-commerce
                     businesses, the transaction information
                                                                                     5. Payment (Payment + Interest + Fee)
                     is sent to the VAN usually through the
                     Payment Gateway (PG) service providers.
                     VAN service providers transmit requests                         Transaction Flow
                                                                                     Money Flow (Flow of Economic Value)
                     for transaction approval from merchants
                     to credit card companies and the                [Figure 15] Credit card transaction process – cash advance
                     authorization information back to the           (Source: Korea Credit Finance Association)
                     merchants to complete the transaction.
effects of the credit card on the Korean industry 21




                       2.4.2 Directly Related Industries                                                 As seen in [Figure 16], the growth of the
                                                                                                         VAN service sector has been directly
                       Activities creating economic value in the
                                                                                                         affected by the total amount of credit card
                       credit card transaction process itself are
                                                                                                         spend (excluding cash service). According
                       the following:
                                                                                                         to the Korean Association of Information
With the growth of     • Provision of VAN service                                                        and Communication (KAIT), total revenue
the credit card                                                                                          for the whole industry was a mere 26
                       • Provision of PG service
industry, the VAN                                                                                        billion KRW in 1998 but increased to 214
                       • Manufacturing and installment of POS                                            billion KRW in 2003.
service sector grew
                         terminals
to a 214 billion KRW
                       • Provision of money remittance service                                           Competition in VAN services has
market                                                                                                   intensified recently, but profitability
                         between banks
                                                                                                         stabilized due to the “Mutual agreement
                       • Provision of Public Key Infrastructure                                          to establish a market environment for fair
                         (PKI) for e- commerce                                                           competition” in November 2003.
                                                                                                         Furthermore, with the introduction of
                       This chapter aims to analyze the effects                                          alternative payment methods such as
                       of the credit card industry on each of the                                        mobile payments or smart cards, the
                       directly related industries.                                                      single service market for credit card inquiry
                                                                                                         was restructured as a compounded service
                                                                                                         market, creating greater room for further
                       VAN Service Providers
                                                                                                         growth.
                       The VAN service providers connect credit
                       card companies and POS terminals at                                              300                                                           250

                       merchants to relay requests for credit




                                                                                                                                                                            VAN service revenue (billion KRW)
                                                                                                        250
                                                                     Credit card spend (trillion KRW)




                                                                                                                                                                      200
                       purchase authorizations and the
                                                                                                        200
                       subsequent authorization results.                                                                                                              150
                       Commissions resulting from such                                                  150
                       authorization relay services are one of the                                                                                                    100
                                                                                                        100
                       main revenue sources for VANs. VAN
                                                                                                                                                                      50
                       services were privatized in 1987 by Korea                                        50
                       Information & Communications Co., Ltd
                                                                                                         0                                                             0
                       (KICC) after the full-scale deployment of                                                 98       99       00      01       02       03

                       the credit card business. Currently KICC,                                                                VAN service revenue
                                                                                                                                Credit card spend
                       KS NET Inc., Korea Mobile Payment
                       Services Co., Ltd (KMPS), and KISVAN                                                   [Figure 16] Credit card spend and VAN service revenue
                                                                                                              (Source: Korea Credit Finance Association, Korea
                       Inc. are the major players, and they                                                   Association of Information and Telecommunication)
                       account for over 80% of market share.
effects of the credit card on the Korean industry 22




                                                                          Manufacturing and Sales of POS Terminals                                                                                                                1996        2003

                                                                          The credit card POS terminal, a necessary
                                                                                                                                                                                                                                                            USA
                                                                          component of credit card transactions, is




                                                                                                                                                                                      Number of credit card usage per person
                                                                          manufactured and sold by companies such                                                                                                                                    USA
With the growth of                                                        as HANCHANG Systems Corp., KICC, and
the credit card                                                           National Information & Credit Evaluation,                                                                                                                                                     Korea
                                                                                                                                                                                                                       50                UK
                                                                          Inc. (NICE). As shown in [Figure 17],
industry, the sales of                                                    revenues of the industry leaders increased
these sectors                                                             at an average rate of 70% until 2002,
                                                                                                                                                                                                                                JPN UK

increased to 80                                                           spurred by the rapid increase in credit                                                                                                               JPN
                                                                                                                                                                                                                                   GER
billion KRW at its                                                        card usage. Although revenue has been                                                                                                                           Korea
                                                                                                                                                                                                                               GER
                                                                          decreasing since reaching its peak of 78.2
peak                                                                                                                                                                                                                                              40,000                64,092
                                                                          billion KRW in 2002, future growth is                                                                                                                     POS Terminal (per million people)
                                                                          anticipated due to the increase in exports
                                                                                                                                                                                      [Figure 18] POS terminal installation and credit card usage
                                                                          to Japan, China, and the Middle East. Such                                                                  (Source: Korea Financial Telecommunications and Clearings Institute)

                                                                          rapid growth of the POS terminal sector
                                                                          led by the growth of the credit card                                                                        According to the statistical analysis of the
                                                                          industry is expected to contribute to                                                                       POS terminal manufacturing sector
                                                                          obtaining foreign currency and improving                                                                    conducted by the Korea Financial
                                                                          the trade balance.                                                                                          Telecommunications & Clearings Institute
                                                                                                                                                                                      (KFTC), the number of POS terminals
                                                                         300                                                              90                                          deployed per million people increased
                                                                                                                                          80                                          from 14,945 in 1996 to 64,092 in 2003,
                                                                                                                                               Sales of POS terminals (billion KRW)
                                      Credit card spend (trillion KRW)




                                                                         250
                                                                                                                                          70                                          exceeding that of all major developed
                                                                         200                                                              60                                          countries. In addition, the frequency of
                                                                         150
                                                                                                                                          50                                          credit card usage exceeded 50
                                                                                                                                          40                                          transactions per person, placing Korea in
                                                                         100                                                              30                                          second place right behind the U.S.
                                                                                                                                          20
                                                                         50
                                                                                                                                          10
                                                                          0                                                                0
                                                                               1998    1999    2000    2001     2002    2003    2004
                                                                                                 Sales of POS terminals
                                                                                                 Credit card spend

                                                                               [Figure 17] Credit card spend and sales of POS terminals
                                                                               (Source: Korea Credit Finance Association, Annual
                                                                               report & auditor’s report of POS terminal manufacturing
                                                                               companies)7




7We collected revenue data of POS terminals from audit reports and/or
business reports for seven companies including HANCHANG Systems
Corp, KICC, and NICE.
effects of the credit card on the Korean industry 23




                                                                            Payment Gateway (PG) Service Providers                                                                                                  Other Directly Related Industries
                                                                      300                                                          80                                                                               PKI is an electronic signature used for
                                                                                                                                   70                                                                               personal identification purposes and




                                                                                                                                        PG service revenue(billion KRW)
                                                                      250


                                    Credit card spend(trillion KRW)
                                                                                                                                   60                                                                               functions as the equivalent to a legal seal
                                                                      200
With the growth                                                                                                                    50                                                                               in offline transactions. To deal with the
of credit card and                                                    150                                                          40                                                                               safety issues in typical online financial
                                                                                                                                                                                                                    transactions, more and more financial
e-commerce                                                            100
                                                                                                                                   30
                                                                                                                                                                                                                    institutions are mandating the use of PKIs.
                                                                                                                                   20
industries, the                                                       50                                                                                                                                            Currently, PKI institutions authorized by
                                                                                                                                   10
sales of this sector                                                   0                                                           0
                                                                                                                                                                                                                    the government include KFTC, Korea
increased to 75                                                               1999    2000     2001     2002     2003    2004                                                                                       Information Certificate Authority Inc.,
                                                                                                                                                                                                                    Koscom Corp., Korea Electronic
billion KRW                                                                                   PG service revenue
                                                                                              Credit card spend                                                                                                     Certification Authority Inc., National
                                                                            [Figure 19] Credit card spend and PG service revenue                                                                                    Computerization Agency, and Korea Trade
                                                                            (Source: Hana Economic Research Institute,
                                                                            Korea Information Service Corp, Annual                                                                                                  Network. Since the policy to charge the
                                                                            and auditor’s report of PG service companies)8                                                                                          issuing of PKI came into effect in
                                                                                                                                                                                                                    September 2004, 803,000 PKIs have
                                                                            PG service is a proxy for credit card                                                                                                   been issued as of July 2005. Considering
                                                                            transactions of small-size e-commerce                                                                                                   the cost of 4,400 KRW per PKI issuance,
                                                                            companies. Similar to the transactions for                                                                                              this amounts to 3.5 million KRW in
With increased                                                              typical merchants, a PG service provider                                                                                                revenue. As of April 2005, the total
credit card use,                                                            usually sends requests for credit card                                                                                                  number of PKIs that have been issued
PKI demand will also                                                        transactions generated by small-size e-                                                                                                 reached 10,150,000. Due to the law
                                                                            commerce companies to VAN companies                                                                                                     mandating the use of PKIs for all online
increase in order to
                                                                            and forwards the authorization results                                                                                                  transactions exceeding 300,000 KRW,
secure authorized                                                           back to the requestor.                                                                                                                  the PKI service sector is expected to
transactions                                                                                                                                                                                                        continuously grow.
                                                                            As of 2004, INICIS Co. Ltd., Korea Cyber
                                                                            Payment Inc. (KCP), and KSNet Inc. were                                                                                            1000
                                                                            the major PG service providers, accounting                                                                                         900
                                                                                                                                                                          Transaction volume (ten thousands)




                                                                                                                                                                                                               800
                                                                            for more than 70% of market share. As
                                                                                                                                                                                                               700
                                                                            shown in [Figure 19], the total revenues                                                                                           600
                                                                            for the major PG companies reached 1.3                                                                                             500
                                                                            billion KRW in 1999 but increased to 75                                                                                            400
                                                                            billion KRW in 2004 due to the expanding                                                                                           300
                                                                            e-commerce market.                                                                                                                 200
                                                                                                                                                                                                               100
                                                                                                                                                                                                                0
                                                                                                                                                                                                                           2001          2002         2003          2004
                                                                                                                                                                                                                      [Figure 20] Public Key Infrastructure transaction volume
                                                                                                                                                                                                                      (Source: Ministry of Information and Communication)




8Because revenues of Korea Cyber Payment Inc. (KCP), KSNet Inc, and Allat Inc.
were very small, we used total revenue data from their income statements. In the
case of Cyberpass Inc. and KS NET Inc. we used their PG service revenue data.
effects of the credit card on the Korean industry 24




                                                           While banks operate credit card                                                                                        2.4.3 Indirectly Related Industries
                                                           businesses themselves, they also earn
                                                                                                                                                                                  B2C E-Commerce
                                                           added revenues from transaction
                                                                                                                                                                              7                                                            76%
                                                           commissions because all credit card
                                                                                                                                                                                                                                           74%
                                                           transactions are made through bank                                                                                 6




                                                                                                                                                                                                                                                 Percentage of credit card spend
Banks may collect                                          accounts. In addition, since cash advances
                                                                                                                                                                                                                                           72%




                                                                                                                                                     Revenue (trillion KRW)
                                                                                                                                                                              5
service fees by                                            utilize the Inter-bank Shared Network,
                                                                                                                                                                                                                                           70%
                                                                                                                                                                              4                                                            68%
participating in                                           banks generate revenues by charging
                                                                                                                                                                                                                                           66%
                                                                                                                                                                              3
credit card payment                                        credit card companies an average                                                                                                                                                64%
                                                           commission of 1,500 KRW per cash                                                                                   2
processes                                                                                                                                                                                                                                  62%
                                                           advance service.                                                                                                   1
                                                                                                                                                                                                                                           60%
                                                                                                                                                                              0                                                            58%
                                                           As shown in [Figure 21], the revenue of                                                                                  2000       2001     2002         2003      2004
                                                                                                                                                                                               Percentage of credit card usage
                                                           Korean banks related to credit cards                                                                                                Revenue
                                                           increased to 4.99 trillion KRW in 2004,                                                                                [Figure 22] E-commerce sales and credit card spend
                                                           recording a 300% increase since 1999.                                                                                  (Source: Direct Marketing Strategy Research Institute,
                                                                                                                                                                                  National Statistical Office)
                                                           This growth rate is very meaningful since
                                                           total revenues of Korean banks declined
                                                                                                                                                                                  The propagation of credit cards and the
                                                           by 4.3% during the same period.
                                                                                                                                                                                  development of IT infrastructure provided
                                                           Furthermore, the proportion of credit card
                                                                                                                                                                                  a foundation for the rapid growth of e-
The credit card has                                        related revenue to total Korean bank
                                                                                                                                                                                  commerce businesses in the late 90s. As
become a critical                                          revenue increased from 3.1% in 1999 to
                                                                                                                                                                                  shown in [Figure 22], while revenue
payment system as                                          9.9% in 2004, which is more than a 300%
                                                                                                                                                                                  generated by B2C e-commerce amounted
                                                           increase within five years. These facts
the number of credit                                                                                                                                                              to a mere 460 billion KRW in 2000, it has
                                                           indicate that the credit card business has
card users have                                                                                                                                                                   since experienced an average annual
                                                           become an essential source of revenue
                                                                                                                                                                                  growth rate exceeding 108% and reached
increased                                                  for banks.
                                                                                                                                                                                  6.36 trillion KRW in 2005. Additionally,
                                                           56                                                               6                                                     the proportion of electronic purchase
                                                                                                                                                                                  payments using credit cards reached 74%
                       Gross revenue of commercial banks




                                                           54                                                               5
                                                                                                                                                                                  in 2003. Such facts indicate that the
                                                                                                                                Credit card related revenue




                                                           52                                                               4                                                     propagation of credit card use has
                                                                                                                                       (trillion KRW)




                                                                                                                                                                                  significantly affected the growth of the e-
                                  (trillion krw)




                                                           50                                                               3
                                                                                                                                                                                  commerce industry.
                                                           48                                                               2

                                                           46                                                               1

                                                           44                                                               0
                                                                 1999      2000      2001     2002      2003      2004
                                                                        Credit card related revenue of commercial banks
                                                                        Gross revenue of commercial banks

                                                                [Figure 21] Gross revenue and credit card related revenue
                                                                of commercial banks
                                                                (Source: Financial Supervisory Services)
effects of the credit card on the Korean industry 25




                                                Growth of Other Indirectly Related                    2.4.4 Establishment and Propagation of
                                                Industries                                            a Credit Bureau (CB) through
                                                                                                      Accumulation of Credit Information
                                                The integrated services delivered by credit
                                                cards can help some industries enlarge                Active discussion regarding a CB took
Credit cards will                               their potential markets and services.                 place in Korea over several years. Finally,
increase market                                 These industries include travel, leisure,             Korea Information Service, Inc. (KISinfo)
                                                transportation, accommodation, and                    in collaboration with TransUnion of
sizes of other                                  entertainment sectors. The amount of                  America started a CB business in 2002.
indirectly related                              credit card spend in the following seven              National Information & Credit Evaluation,
industries                                      sectors amounted to a total of 80 trillion            Inc. (NICE) entered the business in the
                                                KRW in 2004: 2.4 trillion KRW in                      same year. In February 2005, a consortium
                                                accommodation, 5.3 trillion KRW in travel,            consisting of six banks, three credit card
                                                4.9 trillion KRW in leisure, 990 billion              companies, two insurance companies,
                                                KRW in culture, 38.8 trillion KRW in retail,          Seoul Guarantee Insurance, VISA, and
                                                2.6 trillion KRW in academic institutions,            Korea Ratings launched the Korea Credit
                                                and 24.9 trillion KRW in restaurants. The             Bureau, Inc. (KBC). KCB obtained official
                                                inherent easy payment functions of                    permission from the Financial Supervisory
                                                credit cards combined with internet                   Commission and has started providing CB
                                                infrastructure have significantly                     scores from February 1, 2006.
                                                contributed to the growth of these
The credit bureau
                                                indirectly related industries over the last           The core of credit risk management and
will play a critical                            two decades since a large portion of their            credit evaluation is the credit information
role in managing                                revenues occur as advance-purchases                   obtained from individuals and companies.
credit risk of                                  using credit cards.                                   As seen in [Figure 23], effective
financial institutions                                                                                communication and information sharing
                                                                                                      among various financial institutions, non-
                                                                                                      financial institutions, the National Tax
                                                                                                      Service, and other public institutions are
                                                                                                      prerequisites to a systematic credit risk
                                                                                                      management and credit evaluation.

                                                                                                               Credit Card Companies

                                                                                                        Specialized
                                                                                                                                              Tele-
                                                                                                           Credit
Credit card                                                                                               Finance
                                                                                                                                           Communication
                                                                                                                                              Firms
transaction data is                                                                                     Institutions
                                                                                                                              Credit
the most important                                                                                                          Bureau
                                                                                                          Savings
data for establishing                                                                                      Banks
                                                                                                                             (Credit        Government
                                                                                                                                            Institutions
                                                                                                                            Report,
an efficient credit                                                                                                         Scoring)          (NTS)
bureau                                                                                                  Insurance &
                                                                                                            Other
                                                                                                         Institutions                          Others




                                                                                                                             Banks
                                                                                                      [Figure 23] Circulation of credit
                                                                                                      information using a Credit Bureau9




9Specialized Credit Finance Institutions include credit card companies, facility rental businesses,
short-term lease companies and new technology finance companies. Thrift institutions include
trust accounts of banks, mutual savings banks, the credit union, and the Korean Federation
of Community Credit Cooperatives. Insurance and other financial institutions include insurance
companies, securities companies, and credit guarantee institutions.
effects of the credit card on the Korean industry 26




In essence, while over-issuing credit cards                                                24                                                          110




                                                Economically active population (million)
produced a large number of credit                                                          23                                                           95
defaulters in Korea, the more fundamental                                                  22




                                                                                                                                                             Credti card issued (million)
                                                                                                                                                        80
problem was that there was no effective                                                    21
                                                                                                                                                        65
system required for obtaining credit                                                       20

information. Given the fact that the records                                               19                                                           50
                                                                                           18
of credit card spend are important sources                                                                                                              35
                                                                                           17
of credit information, the credit card                                                                                                                  20
                                                                                           16
industry will play a crucial role in
                                                                                           15                                                            5
establishing a CB - a necessary component




                                                                                           19 0
                                                                                           19 1
                                                                                           19 2
                                                                                           19 3
                                                                                           19 4
                                                                                           19 5
                                                                                           19 6
                                                                                           19 7
                                                                                           19 8
                                                                                           20 9
                                                                                           20 0
                                                                                           20 1
                                                                                           20 2
                                                                                           20 3
                                                                                              04
                                                                                             9
                                                                                              9
                                                                                              9
                                                                                              9
                                                                                              9
                                                                                              9
                                                                                              9
                                                                                              9
                                                                                              9
                                                                                              9
                                                                                              0
                                                                                              0
                                                                                              0
                                                                                              0
of the financial infrastructure and Korean




                                                                                           19
                                                                                                              Credit card issued
economy.                                                                                                      Economically active population


As seen in [Figure 24], if the CB can                                                      18                                                           5.0
systematically manage the 2 billion annual                                                 16                                                           4.5
credit card transaction information




                                                Number of merchants (million)
                                                                                           14                                                           4.0




                                                                                                                                                                    Credit card per 1 EAP
generated by 100 million credit cards in                                                   12                                                           3.5
                                                                                                                                                        3.0
circulation and 17 million merchants, it                                                   10
                                                                                                                                                        2.5
will considerably contribute to the financial                                              8
                                                                                                                                                        2.0
advancement of the Korean economy.                                                         6
                                                                                                                                                        1.5
                                                                                           4
                                                                                                                                                        1.0
                                                                                           2                                                            0.5
                                                                                           0                                                            0.0

                                                                                               19 0
                                                                                               19 1
                                                                                               19 2
                                                                                               19 3
                                                                                               19 4
                                                                                               19 5
                                                                                               19 6
                                                                                               19 7
                                                                                               19 8
                                                                                               20 9
                                                                                               20 0
                                                                                               20 1
                                                                                               20 2
                                                                                               20 3
                                                                                                 04
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 9
                                                                                                 0
                                                                                                 0
                                                                                                 0
                                                                                                 0
                                                                                           19


                                                                                                                   Credit card per 1 EAP
                                                                                                                   Number of merchants

                                                                                                [Figure 24] Changes in total number of credit cards issued
                                                                                                and number of merchants
                                                                                                (Source: Korea Credit Finance Association)
conclusion - contributions to GDP 27




          Conclusion
Contributions to GDP
conclusion - contributions to GDP 28




This report has so far analyzed the qualitative and quantitative effects that the Korean credit
card industry has on the national economy by employing various research methods including
statistical analyses. The overall results of this research indicate that the industry influences
the national economy in various positive ways: increasing transaction transparency, tax
revenue, deposits, and contributing to the development of directly and indirectly related
industries. The key findings of this research are summarized in [Table 3].

    Enhanced transaction transparency
    • Increases in both the proportion of credit card spend to total corporate revenues and credit
      card usages for corporate entertainment expenses enlarged the size of measurable economic
      activities, which subsequently enhanced the overall transaction transparency in the Korean
      economy

    Increases in tax revenue
    • Credit card usage increased indirect tax revenue, specifically VAT in several business sectors

    Increases in deposits
    • As credit purchases increase and cash advances decrease, deposits held by non-bank
      depository institutions increase, creating investment opportunities

    Development of directly and indirectly related industries
    • Unlike cash transactions, credit card transaction processes for credit purchase and/or cash
      advance involve various activities creating economic value in both directly and indirectly
      related industries
    • Directly related industries such as VANs and PGs were introduced by and developed together
      with the credit card industry, and have made a big leap towards growth
    • The credit card industry played an important role in the development and expansion of
      indirectly related business sectors such as e-commerce, accommodation, travel, and leisure

[Table 3] The effects of the Korean credit card industry on national economy
conclusion - contributions to GDP 29




                     Converting these positive impacts into                            After investigating the credit card
                     economic value provides a foundation to                           transaction processes and the net
                     analyze the effects of the Korean credit                          economic value created through these
                     card industry on national economy. In                             processes, we found that the total value
                     order to calculate the economic value of                          created by both purchases on credit and
The Korean credit    the credit card industry, it is necessary to                      cash advances totaled up to 21.19 trillion
card industry        investigate what roles and functions the                          KRW in 2002.
generated 21.5       industry plays in various economic sectors.
trillion KRW worth   These various analyses allow us to explore                        Total revenue of directly related industries
                     the absolute amount of the economic                               that include VANs, the POS terminal
of economic value
                     value created by the Korean credit card                           manufacturing sector, and PGs amounted
for the national     industry, as well as the different paths                          to a maximum of 358 billion KRW in 2002.
economy in 2002      leading towards sound economic                                    This total revenue can be recognized as a
                     development.                                                      portion of the economic value created by
                                                                                       the credit card industry.
                       Direct Contribution             Indirect Contribution
                        (Economic Value                 (Sound Economic                The Korean credit card industry also
                            Creation)                        Growth)
                                                                                       significantly contributes to the growth of
                                                        Enhancements in                closely related industries such as e-
                            Credit Card                                                commerce, accommodation, travel,
                                                          Transaction
                             Industry
                                                         Transparency                  leisure, and entertainment industries. The
                                                                                       total amount of the credit card spend in
                         Directly Related                  Increases in                some sectors amounted to 80 trillion
                             Industry                      Tax Revenue                 KRW in 2004. However, the accurate
                                                                                       magnitude of this contribution is difficult
                            Indirectly                      Increases in               to quantify and therefore has not been
                         Related Industry                     Deposits                 included in the results of this research.

                     [Table 4] The Korean credit card industry’s direct and indirect   On the other hand, although we found
                     effects on the national economy
                                                                                       statistically significant contributions of
                                                                                       the Korean credit card industry in terms
                     Thus, this research analyzed the absolute
                                                                                       of increases in deposits, tax revenue and
                     economic value of the Korean credit card
                                                                                       transaction transparency, this research
                     industry by taking the sum of the
                                                                                       did not include their estimated economic
                     economic values generated in three
                                                                                       values due to the difficulties to quantify
                     different areas: the credit card industry
                                                                                       such values. Instead, we highlighted the
                     itself, directly related industries, and
                                                                                       positive impacts on the national economy.
                     indirectly related industries.
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