Simply speaking, a compensating balance is an amount a lending institution requires a borrower to leave on deposit during the term of a loan. The practice of requiring compensating balance to a borrower by a lending institution has been widely used in Korea and around the world for decades. It is generally useful especially for banks when banks are making loans to small businesses or persons with lack of funds or low credit rating, in turn banks may keep the compensating balance as collateral and reduce their undesired adverse damages. In Korea, a compensating balance may be regulated by the Financial Supervisory Service (FSS) or by the Fair Trade Commission (FTC) under the relevant laws for banks and other financial institutions. If a lending institution is subject to the regulation of compensating balance, then it deserves relevant corrective measures by FSS or FTC. Many cases in Korea and in Japan show similar results in the matter of banks`` unfair financial trade and superiority over borrowers. Though a compensating balance is subject to the regulation of FSS and FTC, it may be still effective in private transaction between a lending instituting and a borrower. This means that regardless of the regulation of compensating balance, it still remains legally binding deposit contract for both parties unless it should be regarded as an offense against sound social order and public morals under the Civil Law. Sometimes, required compensating balances at the lending institution may affect the principal of the loan for purposes of interest computation. If a compensating balance is voluntarily maintained, there is no effect. If a loan agreement requires a specific balance or restricts the borrower`s use of funds on deposit, a compensating balance may be deducted from the principal in computing the interest rate. In Korea and other many countries, a compensating balance was once and may be still deemed a necessary evil for lending institutions. It is noted, therefore, that the sound supervision of lending institutions, the protection of borrowers and the voluntary restriction by lending institutions should be considered in the policy and the regulation of compensating balance.