South Korea's housing market strengthens
January 28, 2016
The South Korean national housing purchase price index rose by 3.47% (2.44% inflation-adjusted) during the year to end-November 2015. Seoul's house price index rose more, with 4.29% y-o-y growth. When adjusted for inflation, house prices in Seoul rose by 3.26% y-o-y to November 2015.
Among South Korea’s bigger cities, Daegu, the fourth biggest city, had the highest price increase of 8.69% during the year to November 2015. It was followed by Gwangju (5.92%), Incheon (3.37%), Busan (3.36%), and Ulsan (3.26%). Daejeon had the weakest y-o-y growth of 0.4% during the same period.
Out of the country's 9 provinces, Jeju saw the sharpest price hike of around 6.91% y-o-y in November 2015. It was followed by Gyeonggi (4.41%), Gyeongbuk (2.85%), Gangwon (2.12%), Gyeongnam (1.72%), Chungbuk (1.52%), and Chungnam (1.01%). The provinces of Jeonnam (0.7%) and Jeonbuk (0.4%) had the weakest house price increases.
The house price rises reflect increased demand, with home transactions rising 21% to 290,937 during the year to Q3 2015, according to the Korea Development Institute (KDI), following a 39.1% y-o-y transaction increase during the second quarter.
Korea's GDP rose by 2.6% y-o-y in Q3 2015, following earlier GDP expansions of 2.2% in Q2 and 2.5% in Q1, based on the figures of the Bank of Korea (BOK). The third quarter's growth was the fastest in five years. The government predicts 3.1% economic growth in 2016.
Interest rates are also very low. From January to November 2015, rates for housing loans were at an average of 3.02%, significantly lower than the 7.58% peak recorded in October 2008. As of November 2015, the average interest rate on housing loans was 3.04%, according to the Bank of Korea (BOK).
The house price increases were therefore due to a combination of low interest rates and economic growth, along with price rises for chonsei (or jeongsei) houses, leading potential renters to buy their own houses rather than renting. Chonsei (or jeongsei) is a rental system, usually a two-year lease contract, which requires a tenant to pay a lump sum deposit to the property owner instead of a monthly rent. The homeowner will then fully refund the principal amount when the lease agreement is terminated.
The Chonsei system eliminates the likelihood of tenant’s default on monthly rents. However, the lump-sum deposit, equivalent to 70% to 80% of the property value, imposes a huge burden for younger renters and new households.
According to Population and Housing Census Report 2000, 54% of households are in owner occupied houses while 28% are under chonsei contracts. The remaining 18% are under a monthly rental system called wolse.
Korea's economic growth depends on government stimulus
The country's strong economic growth has been driven by strong domestic demand, with construction investment rising by 4.5% q-o-q, private consumption by 1.1% and government spending by 1.9%.
In contrast, exports continue to pull down the economy with a 0.2% q-o-q decline, showing weak demand from its global trading partners, particularly China.
An important factor has been a government stimulus package worth more than 15 trillion won (US$ 13.5 billion) in July 2015, which countered the detrimental effects to the economy of the MERS outbreak.
"We expect domestic demand to remain the main driver of the recovery, helped by supportive policy measures," said Capital Economics' Asia economist Krystal Tan.
Mortgage lending expands strongly
Household mortgage loans in South Korea expanded by an average y-o-y growth rate of 9.07% for the first three quarters of 2015. Household debt is also on the rise, growing by 10.4% y-o-y to KRW 1,166 trillion (US$ 985.10 billion) in Q3 2015, according to the Bank of Korea (BOK). From 2007 to 2014, the outstanding mortgage-to-GDP ratio rose from 28% to 31%.
Borrowers have been attracted by the BOK’s low key rate, cut twice in 2015 ― from 2% to 1.75% in March, and to 1.5% in June.
The number of unsold houses on the market has gone down from 2009's peak figure of 123,297 housing units to 40,379 units in 2014. And this has been achieved with a banking system in better health, with the average bank loan-to-deposit ratio at 115.32 in Q3 2015, below from the range of 120 to almost 140 between 2007 to 2009.
A cold wind blowing toward the housing market
Though house and apartment prices are rising, these rises may not last, due to tighter lending restrictions and housing oversupply, as reported by Bloomberg in October 2015.
Pre-sales in the second half of 2015 were already way beyond the inventory needed, raising oversupply concerns, according to Nice Investors Service, a Korean ratings company. Around 31,700 apartment units offered for pre-sale remained unsold in August 2015, up from 28,000 units in April 2015, according to the land ministry.
The housing supply ratio to households went up from 98.3 in 2005, to 103.5 in 2014, according to the Ministry of Land, Infrastructure and Transport (MOLIT), indicating that housing supply currently exceeds the number of households in the country.
In addition, the country's large household debt has made repayments onerous for some households, compelling the government to impose measures to curb loan growth. Banks are expected to impose stricter lending standards this year. South Korea's Financial Services Commission (FSC) has also increased the minimum proportion of fixed-rate and amortising home loans to around 30% of the banks' total mortgage loans in 2016, and around 40% by 2017.
“Government measures to control household debt from 2016 will make it difficult to buy a house relying on loans,” according to Hana Institute of Finance researcher Sohn Jeong Rak.
Korean house prices are strongly steered by the government
The peak of South Korea’s house price boom was reached in 2006, when Seoul prices rose almost 20%. Then the government applied the brakes, imposing controls on housing loans, and hiking capital gains taxes on “speculative areas”. These cooling measures caused a slight slowdown in 2007, with 5.4% price rises in Seoul (1.75% in real terms) and 3.1% nationally (0.6% in real terms). In 2008, house prices rose 5% in Seoul (0.86% in real terms) and 3.1% nationally (-1.5% in real terms).
From April to October 2009 there were house price declines, triggered by the Lehman shock and government curbs. Property transactions (but not prices) fell 35.8% y-o-y to September 2010, in the midst of a cycle of overbuilding. The mini-slump caused the construction industry severe problems.
The government began reviving the housing market in 2009 by purchasing KRW 2 trillion (US$ 1.79 billion) worth of unsold newly built housing, and KRW 3 trillion (US$ 2.68 billion) of land from construction firms wishing to repay their debts.
This was followed by a more intensive expansion measures in August 2010, as the government partially eased real estate lending restrictions through the following measures:
- Restrictions on total debt payment ratios in non-“speculative areas” were abolished;
- Households with annual incomes of KRW 40 million (US$ 35,787) or lower can now avail loans worth up to KRW 200 million (US$ 178,937) for house purchases;
- The grace period for extra tax on asset transfer income was extended; and
- Housing registration tax exemptions were also extended.
In early-2011, the government raised tax incentives for real estate investment trusts that buy unsold housing,. It also halved home purchase taxes to 1% to 2%, from between 2% to 4%. It also announced the establishment of a “bad bank” – the Project Financing Stabilization Bank (PFSB) – to take on as much as KRW 1.2 trillion (US$ 1.1 billion) of non-performing loans, beginning June 2011.
In December 2011, the government revealed another new set of policy measures including:
- Abolition of punitive capital gains taxes on owners of more than one property
- Securitization of up to KRW 2 trillion (US$ 1.79 billion) worth of debt owed by construction companies
- Rules preventing the quick sale of properties in Seoul’s real estate hotspots lifted
- Expansion of eligibility for cheap loans offered to first-time buying married couples and low income-earners, and the reduction of lending rates by half a percentage point to 4.2%.
- Reduction of the levy to 6% - 35% on profits obtained from home sales made by multiple homeowners from 50% - 60% rate introduced in 2005.
However these measures were not enough. There were house price declines from 2012 to 2013. House prices in Seoul fell further than national prices, declining by an average of 2.32% in 2012, and 3.62% in 2013. A report from Colliers cited economic uncertainty, a seasonal slowdown, mortgage restrictions, fears of another housing market recession, among other reasons for the slowdown.
Further measures were taken such as introduction of tax breaks to induce more demand, as well as other supply control measures for the improvement of prices. The effects of these measures was seen after a year, and has been reflecting the gradual improvement of prices for the past two years.
In search of stability, the government wants to shift mortgage borrowing to fixed-rate
The Korea market has historically been very sensitive to interest rate changes, as traditionally around 80% to 95% of housing loans have been floating rate. The Korean government has promoted fixed rate loans to reduce default risks since the second half 2011. In February 2014, South Korea's Financial Services Commission (FSC) stated that by 2017 banks will be obliged to hold a minimum of 40% of the banks' mortgage portfolios in fixed-rate and amortising home loans, with targets of 20% for 2014, 25% in 2015 and 30% in 2016.
As of November 2015, around 39.7% of total new home loans were fixed rate loans, while floating-rate loans got the remaining 60.3% share, according to the BOK.
Economy is likely to improve in 2016; exports remain weak
GDP rose by 2.6% y-o-y in Q3 2015, following earlier GDP expansions of 2.2% in Q2 and 2.5% in Q1, based on the figures of the Bank of Korea (BOK). The third quarter's growth was the fastest in five years.
However exports continue to pull down the economy with a 0.2% q-o-q decline, reflecting weak demand from its global trading partners, particularly China. South Korea's economy is heavily reliant on exports. The country is the world's 7th biggest exporter, and exports account for half its GDP. Which is why the sluggish performance of exports in 2015 has been a major drag on the economy. In November exports saw their 11th consecutive y-o-y drop of around -4.7%, according to Korea Customs Services and FocusEconomics),. Aside from weak global demand, lower oil prices, and the Chinese Yuan's successive devaluations have affected export performance.
Despite this, low interest rates and government spending have allowed the economy to recover. A government stimulus package worth more than 15 trillion won (US$ 13.5 billion) was launched in July 2015, which countered the detrimental effects to the economy of the MERS outbreak.
After meagre annual growth of 0.3% in 2009, the South Korean economy turned around in 2010 with GDP growth of 6.5%. However, growth then slowed, with 3.7% GDP growth in 2011, 2.3% in 2012, 2.9% in 2013, and 3.3% in 2014.
As part of the government's measures to cushion the weak exports' impact on the economy, the BOK has lowered its key interest rate for the second time by 50 basis points to 1.5% in June 2015. The first rate cut in 2015 was in March, lowering the base rate to 1.75% from 2%.
In December 2015, inflation rose by 1.3% y-o-y, the highest rate in 16 months. Inflation of 1.8% is expected in 2016, according to the IMF.
The country’s unemployment was 3.2% in December 2015, slightly down from 3.4% at end of 2014, according to the Korean Statistical Information Service (KOSIS).
On August 20 2015, tensions between North and South Korea rose after North Korea fired a shell on South Korea's borders, causing the latter to respond by launching artillery rounds. A few days later, both parties reached an agreement.
However, tensions rose once more in January 2016 when North Korea claimed to have tested a hydrogen bomb estimated to be "50 to 100 times the power of the bombs on Hiroshima and Nagasaki," according to nuclear scientist Imad Khadduri. Before North Korea announced the claim, South Korea's meteorological agency detected a 5.1 magnitude earthquake near a recognized test site.
On January 13, 2016, South Korea warned North Korea of 'bone-numbing' sanctions that the United States and its allies might impose.