With prices high despite a market slump...
Is Korea at risk of a housing bubble?


The property market is stagnant and needs a jolt. At least, that’s the view of the government, which on May 10 announced measures to boost house sales, particularly in affluent areas of southern Seoul such as Gangnam, Songpa and Seocho.

Within days, however, real estate agents and market observers had labeled the measures, including lowering transaction taxes and easing lending rules, too modest to be effective.

If boosting weak property values is today’s concern, very different fears dominated discussion on real estate until relatively recently. This month two years ago, Hyundai Economic Research Institute warned of a catastrophic collapse of an inflated market without immediate government action. Economist Kim Kwang-soo, the head of think tank KS Economic Research Institute, made similar predictions, claiming that mortgage debt and speculative buying had led to a huge bubble the government could only hide for so long. 

There is no single definition for what constitutes a bubble. Yale economics professor Robert J. Shiller, however, has defined it as an unsustainable rise in prices based on “exaggerated expectations of future price increases.”

Threat

Although housing crashes tend to be more gradual than those on the stock market, they are more prolonged and cause more economic damage, according to a 2003 report by the International Monetary Fund. Heightening the threat is that a bubble is difficult to identify until well after it has burst.

In the midst of the dire predictions, house prices in 2010 were falling sharply, accelerating a downward trend that had begun in 2009. The growth in prices had peaked in 2006, when Seoul prices rose almost 20 percent, prompting the Roh Moo-hyun government to impose tighter lending rules and higher capital gains taxes to cool the market.

Park Moon-seo, an associate professor at the department of architecture of Seoul National University, said these measures were only partially successful, and could in fact end up contributing to a bubble and crash.

“Anti-speculation policies of the previous government were a half-success,” he said. “They were successful in terms of decreases in housing prices. At the same time, they were unsuccessful, as they have suppressed housing demand with non-natural market control, which accumulates its abnormal energy. Thus, they may result in a sudden rise of housing prices or bubble collapse in the future.”

Kim is much more forceful: There cannot be doubt that the market is already grossly inflated and heading toward a bust. When the bubble pops, he warned, the results could be even more catastrophic than the current situation in the United States or Greece.

“It is indisputable that there is a housing bubble risk in Korea,” said Kim. “The bubble first began with the sudden change in interest rate policy after the foreign exchange crisis in 2001, which caused a rise in speculation. And in order for banks to fund the boom in lending ―- due to speculation ― they borrowed foreign capital, causing a rise in household debt. And more debt means that people want to sell their houses. So, the government has ― in vain ― tried to solve this problem by investing vast amounts of money borrowed to fund its stimulative policies.”

Underscoring the severity of the situation, Kim said, is the fact that Korea’s disposable income-to-household debt ratio, at 165 percent, is the highest in the Organization of Economic Development and Cooperation. That house prices have been falling for several years and about two-thirds of the 50 biggest construction firms have gone bankrupt or are on the verge of bankruptcy is proof the collapse has already begun.

“Once a bubble has been created, the bursting of the bubble cannot be deterred,” said Kim. “It is an inevitable phenomenon, which was seen in the subprime mortgage crisis of the U.S., and in other nations as well such as Japan. These nations did not suffer from the bubble because they lacked expertise or money. And the same is taking place in Korea after the bubble was created.”

Evidence

What the government must do, according to Kim, is allow the bubble to burst naturally, at which point the government can provide financial assistance to those hit hardest, and wait for the market to correct itself.

Other observes make starkly different assessments. Kwon Joo-an, a researcher at the Korea Housing Institute, doesn’t believe the evidence points to a massively inflated market at all.

“When we look at the movement of house prices, the prices do not go down rapidly, which means that it is not a bubble or (is only) a little bubble,” he said.

Kwon sees the country’s high real estate prices as a consequence of high population densities in urban areas and a demand not met by supply. In his view, reinvigorating the moribund market should be the short-term priority of the government and the Bank of Korea, rather than resolving household debt.

In contrast to the previous government, the Lee Myung-bak administration has consistently tried to prop up the property market. This began in 2009 with the government purchasing 5 trillion won ($4.2 billion) worth of land and newly built unsold housing. The following year, lending rules were eased, tax exemptions extended and regulations on total debt-payment ratios in non-speculative areas abolished.

Last year saw further measures, with the lifting of a ban on quick sales in highly sought-after areas and a reduction in the levies on profits made on house sales by multiple property owners.

Park thinks that lower capital gains taxes as implemented by the current government should have a positive effect on the present market.

“Depending on the market situation, such a tax policy would effect either positively or negatively the market. Nowadays, it is believed that it is time to revitalize the market and increase the transaction volume. In this sense, lower taxes can have a positive effect on the market.”

Financial strife

In Kwon’s opinion, the lower capital gains tax policy is likely to have little effect on the market, for good or bad. Both Park and Kwon agree, however, that the market must be allowed to self-regulate to some degree.

“Demand management policy has faced its limit in effectiveness and the government must face the fact that the market has to be free in order to remain stable,” said Kwon.

With the cost of purchasing property closely related to the cost of borrowing, monetary policy is another significant variable in the movement of prices. Lower interest rates from the central bank typically boost housing demand, while higher rates do the reverse. On the BOK’s rate-setting policy, too, experts disagree.

“The Bank of Korea’s low interest policy is surely intended to boost the nation’s economy and housing market. As for house prices, such a policy can provide low incomers with a chance to buy their own house and at the same time fuel up speculation. Although monetary policies cannot be evaluated by simple mathematics, the current BOK policy seems to be appropriate, at least for the housing market, judging from the recent decreases in house prices,” said Park.

Kim sees it very differently: The BOK has only added fuel to the fire.

“The more the BOK or government tries to deter the bursting of the bubble, the worse the situation will become. Since 2008, the BOK has printed 150 trillion won. What began as household debt has become government debt and financial strife of public companies as well.”

By John Power and Sim Gukby (john.power@heraldcorp.com)


Readers’ voice

On a housing bubble...

A lot of data points to a slowing economy. Couple this with overvalued property. Of course, the valuation of property is a touchy subject. People often forget that the true value of property is only what someone else will pay for it, and not one won more. (History is rife with incidents that demonstrate that people underestimate risk and indeed see real estate as the “safe” investment).

Real estate appraisers, as far as I am aware, usually value property through looking at the potential returns (rent) on the property. However, I think if we are looking at risk, we should be using some kind of salary multiplier to get the “true” value of property.

In my own personal experience, I saw my brother in Ireland lose a lot of money from investing (as all his sage friends in the real estate business advised) in the property market. He paid over 1 million euros for a standard two-bedroom bungalow in Dublin. He was confident, like most Korean people seem to be now, that if there was any downturn, it would be a flattening, not a collapse. Indeed, he was confident that his house’s price would, in the long term, rise. He was wrong.

At the time the average house price was around 10 times the average wage (with slight regional differences), but now it has fallen back to the affordable level of three times the average wage. Of course, the Korean governments, real estate “gurus” and other pointy-headed know-it-alls will talk and talk about rent returns vs. property prices, convincing many people that “now is the best time, buy now” ― just as they did in the U.S., Japan, Ireland, ad nauseam.

I know things in some districts of Seoul have improved from the days where many apartments were around 100 times the average salary, but homes are still beyond the affordability of many Korean citizens based on their annual income, even allowing for the fact that your parents will help you and you can only borrow 50 percent of the value of a home.

Some moderately good news though: HSBC has released data about the housing market ― unsold property units, which were a large concern last year, have decreased; however, this is because of less units being built. Construction is slowing down, which is bound to be good for a flattening of the housing market.

As for me, I’m saving my money, and, fingers crossed, if there is a slowdown (a flattening) in the housing market, I will be able to get a 50 percent mortgage from a bank ― not to invest, but to buy a home.

Be wary of the “experts” who will try to blind you with their economics degrees and talk of “marginal rates of return” and “market corrections.” There is a phrase “safe as houses” in English, but it masks a deceit. No investment is 100 percent safe. Even keeping your assets in cash is not 100 percent safe ― inflation or hyperinflation is always a risk).

If you are not a speculator, however, and you merely want to “buy” a home, then there is no better advice than to buy a home affordable to you. If it is to be your home, you do not need to worry too much about a mild case of negative equity. But if you are a speculator: Caveat emptor (buyer beware).

― Brian Arundel, Seoul, via Facebook

On tourism to Korea...

I’ve just been reading your article in The Herald about Korea’s performance with the foreign tourist market. As an Australian in the middle of a four-week holiday in Korea, I have a couple of comments.

Firstly the one thing that stands out for us is the ubiquitous friendliness and helpfulness of Koreans towards us. Irrespective of whether they speak any English, ordinary people in the street have helped us on many occasions when we looked lost or confused. Staff in places we have stayed in have invariably been helpful and have been willing to use the wonderful 1330 phone number as a free interpreting service. These characteristics could be a draw-card to people in non-Asian countries.

The second thing I would mention is the problems we had before we came in our search for accommodation. We never use tours and always organize our own accommodation, mainly through the internet ― we have traveled extensively in many countries in this way. It was extremely frustrating trying to get information in English about Korean hotels, guesthouses and hostels.

Many didn’t seem to have their own websites and, when we did find a website, they were understandably in Korean, but without adequate translation. Some had a translation button which didn’t function; others had a button which translated the headings but not any of the detailed information; occasionally we found one with an email address but some bounced.

The very few with functioning email addresses were generally excellent and answered all of our questions. Many hotels, etc., were listed on sites such as Agoda or Hostel World but these sites did not necessarily have the particular information we wanted and certainly gave no e-mail addresses of the accommodation so that we could ask the questions we wanted to. In short, it took us many hours longer than normal to find our accommodation and we were far from confident that we had understood what it was we were going to find when we arrived here.

In short, I’m suggesting hotels, hostels, etc., should be encouraged/assisted to set up individual websites, which can be read in English (Chinese, Japanese, etc.) and which provide an up-to-date email address so that prospective customers can ask questions. Most budget travelers are unwilling to make international phone calls, especially with the risk that no one at the other end can speak adequate English. (I keep mentioning English, not because it is my native language but because it is by far the most widely spoken non-Asian tourist language.

Non-Asian tourists always look for postcards to send home to show their friends and family what nice places they are visiting ― another form of free advertising for Korea’s attractions.

We also miss being able to get our hands on plain street maps (without all the pretty pictures, which make them attractive but difficult to read) showing street names and major landmarks in both Korean and English ― Korean so that helpful Koreans can understand what the tourist is trying to get to, plus English for those who cannot decode the Korean alphabet. Bus route maps in each city would also be very useful.

All that said, we have really enjoyed Korea.

― Hazel Davidson, Brisbane, Australia