Can Korea prevent housing bubble from bursting?

The approval of a reconstruction project for apartments at the Jamsil Jugong Apartment Complex 5 in Jamsil, southern Seoul, which had been one of the area’s most lucrative real estate markets, was supposed to give the property market a jolt. However, the boost has yet to happen, with some observers taking this as one of the many indicators that Seoul’s once-soaring housing market is about to tumble. / Korea Times file

By Kim Tong-hyung
Staff reporter

As the housing market skids through its most dramatic plunge in years, observers can't agree on whether the country is in for a spectacular crash or a moderate bounce-back.

However, one thing appears to be certain: the days of splurging on houses as an investment, which led to the borrowing binge that fueled the bubble in the past decade, is all but over.

Those who had been convinced just a while ago that they were sitting on a fortune are now distressed about losing one.

``Home buyers considered themselves more as investors than consumers in the past, but we have come to a time when taking on mortgages worth many times your salary is downright stupid,'' said Lim Sang-soo, a researcher at the Hyundai Research Institute.

``To put it simply, people will be choosing and buying houses they want to live in, rather than looking to flip the properties for profit down the road. It's hard to imagine the house-price booms of the mid-2000s happening again and these certainly aren't comforting times for those who took on massive loans to buy houses to bank their financial future on.''

House prices in Seoul dipped 1.07 percent during the first six months of the year compared to the second-half of 2009, declining for 19th straight weeks and counting, with the falls sharper in previously hot districts such as Songpa, Dobong, Gangbuk and Nowon.

A 112-square-meter apartment in the Mido complex of Daechidong, which had been the bubbliest corner of southern Seoul's once-soaring housing market, now fetches south of 1.1 billion won ($895,000), nearly 200 million won off their price-tags of 2008.

Probably, a more accurate indicator of the health of the property market would be the volume of sales, which has shrunk dramatically. According to the Ministry of Land, Transport and Maritime Affairs, home sales in Seoul numbered 2,263 units in May, just about one-third of the monthly average of 6,800 units posted over the past four years.

The Korea Housing Institute predicts that house prices in Seoul will drop another 2.8 percent during the second-half of the year and a 3.1 percent decline for neighboring urban cities.

Oversupply is an increasing concern as the inventory of unsold homes continues to grow and scores of new homes, which had been planned during the housing market's pre-crisis peak between 2006 and 2008, are to be completed in the coming months.

The expected rise in interest rates, as the government begins to organize its ``exit strategy,'' will also make house prices falter further toward the end of the year, the institute said.

The government has so far dismissed the talk of a bubble, but its package of stimulus measures and massive budget for purchasing unsold homes, to slow the bleeding of construction companies, confess to a sense of urgency.

But rather than scrambling to save builders and create artificial demand, some economists see it crucial that the government focus on letting some air out of the bubble instead.

The cost of failure would be severe economic pain when the bubble finally pops in a country already burdened with outrageous household debt, which fed off speculative demand in the property market in past years.

Will prices collapse or flatten?

So just how much overvalued are Korean homes? More inflated than those in economies such as the United States and Japan, which have suffered from the fallouts of massive housing bubbles in the past, according to the claims of the Korea Development Bank (KDB) Research Institute.

In studying the gaps between house price levels and consumer price index (CPI) measures from 1987 to 2007, the institute finds that the prices of apartments in Korea had rose at a significantly quicker pace than the U.S. and Japan during the period.

A comparison of the price to income ratio (PIR), a basic affordability measure for housing in a given market, between the three countries also reveals that Koreans have been much more overzealous than their American and Japanese counterparts in their attempts to move up the property acquiring ladder.

The PIR is essentially the ratio of median house prices to median household disposable incomes. Korea's PIR of 6.26 in 2008 was nearly double the 3.55 of the U.S. and Japan's 3.75, which roughly means that it would take Korean workers that much more time to buy a house compared to the Americans and Japanese.

Seoul's PIR of 12.64 in 2008 was significantly higher than the ratios of bustling U.S. megacities like New York (7.22) and San Francisco (9.09), according to the KDB Research Institute.

The rapid house-price inflation of recent years, of course, is clearly unsustainable, and the time might arrive when prices drop off the table. This may or may not be in a year or two.

``Korean apartment prices, particularly in Seoul, first significantly soared above the CPI in the early 1990s and the gap had widened considerably since then,'' said an official from the KDB Research Institute, asking not to be named.

``We stand by our observations that Korean house prices in 2010 are more overvalued than U.S. house prices in 2006 when the property bubble peaked in that country, based on the differences of CPI levels,'' he said.

Granted, the numbers could be interpreted in a variety of ways, and some observers, including Hong Heon-ho of the People's Institute of Economic and Social Studies (PIESS), have been claiming that the KDB Research Institute's report was based on a flawed analysis.

Hong says comparing house-price levels and CPI measures could be misleading as the CPI fails to reflect the changes in the real purchasing power of Koreans, which rose dramatically after the labor struggles of the late 1980s.

Korea's nominal household income index jumped from 100 to 500 between 1987 and 2002, according to Hong, while the CPI rose from 100 to just 200 during the same period. The fluctuation in Japan's median household income and CPI, in comparison, was rather timid during that span.

However, it's hard to argue that Koreans have collectively got in over their heads by spending beyond their income in blind faith that their 300 million won home today will become 400 million won in the following year.

Now, with the country's household debt reaching over 850 trillion won ($692 billion), of which 350 trillion won is real-estate-related, according to the Bank of Korea (BOK), it's plausible to think that Koreans are close to maxing out their ability to continue in the high-stakes gambling.

Although the current state of the housing market is far from comforting, some observers stress for caution against what they label ``doom-mongering.''

A number of experts even suggest the possibility of house prices in Seoul and major urban areas soaring again in the next two or three years, claiming that demand has been excessively suppressed by the government's tightened housing loan rules based on loan-to-value ratio (LTV) and the debt-to-income (DTI) ratio.

``I don't think that the Korean housing market is headed for a free fall ― I would rather call it a price adjustment in certain areas where there was as oversupply,'' said Kwon Joo-an, a researcher from the Korea Housing Institute, who says observers here rarely agree on what qualifies as a bubble.

``I don't think that the Korean housing market has been a bubble, although the way the population is distributed, heavily concentrated in Seoul and the neighboring metropolitan districts, there might have been some isolated bubbles in a few areas. It would be crucial for economists to distinguish what is the most compelling formula to indicate an overvaluation in house prices, whether it be the ratio of house prices to `jeonse' rents or some other measurement,'' he said.

Preventing the rude awakening

Although hoping house prices would flatten rather than fall, government officials are concerned that even a modest weakening might be enough to trigger a slowdown in consumer spending.

However, also on their minds is the slew of bankruptcies in the construction industry in recent years, and this has critics questioning whether the government is trying to let the air out of the bubble or re-inflate it.

The government earlier this year announced that it would spend up to 3 trillion won to purchase 20,000 unsold presale apartment units through the Korea Housing Guarantee (KHGC), on the condition of reselling them to builders or individuals after a certain period.

Although policymakers claim that firm action is unavoidable to stop house prices from depreciating and construction companies from bleeding, one has to wonder whether the government is blowing a massive amount of taxpayer money just to delay the inevitable.

The Herculean attempt to reduce the inventory of unsold apartments indicate the government's reluctance to push the restructuring of the country's ailing construction industry as far as it should, critics say. According to them, cleaning up the construction industry is the key to clean up the country's housing mess, which had much to do with builders ruthlessly feeding the market with new apartments year after year to exploit the speculative demand.

Obviously, the most crucial matter is reducing the country's bloated household debt. This has some economists, including Seon Dae-in from the KS Economic Research Institute, claiming that the country should move quickly to raise its interest rates back up, as much as officials from the finance ministry would dread it.

``The economy is likely to become more vibrant next year, and both home sellers and buyers will be better able to adjust to the transformed housing market, so there is a possibility that the transactions could see a rebound next year. And it's not like the government will raise interest rates significantly at once even should the exit plan take hold,'' said Hyundai Research Institute's Lim.

``However, the housing market from now on will be driven by the demand for occupation. At least for the average individual, the time for buying homes as an investment is all but over.''