[The Era of Ultra Tightening] Korean House Prices Rose 3 Times Out of 4

Impact on the Real Estate Market

During Advanced Economy-Type Interest Rate Hikes

House Prices Generally Fall, but

Have Limited Effect on the Domestic Market

Taxation, Supply, and Other Policies Have Greater Influence

[Asia Economy Reporters Minyoung Kim, Dongpyo Kim] When interest rates rise, the attractiveness of deposits as a financial asset investment increases, which dampens real estate demand. Interest rate hikes theoretically discourage home purchases and cause house prices to fall because they result in reduced market liquidity and increased loan interest rates. However, in reality, this theory does not always produce the same outcome. The United States has experienced four distinct interest rate hike cycles over the past 30 years, but South Korea's real estate market declined only once during these periods. In the other three interest rate hike cycles, domestic house prices actually trended upward.

◆ Housing Supply and Policy Are Bigger Variables = In ‘advanced economy-type’ markets where housing supply rates are high and mortgage lending is active, interest rates generally serve as a major factor determining house prices. However, in the 1990s, the Korean real estate market did not meet either of these conditions. In particular, in the mid-1990s, the housing supply rate was 86% (1995), indicating a shortage of supply. During the 1980s, the ‘three lows’ boom led to an abundance of money flowing into the real estate market. Seoul apartment prices surged by 34.3% in 1990 alone.

The Roh Tae-woo administration pushed forward with the construction of 2 million homes. This was the period when the first-generation new towns such as Bundang and Ilsan were developed. From 1990 to 1996, more than 100,000 homes were built almost every year, and house prices began to stabilize downward. This trend continued until just before the 1997 Asian financial crisis.

From June 2004 to June 2006, the U.S. raised its benchmark interest rate fifteen times, tightening monetary conditions, but this had little effect on Korean house prices. The housing sales price index was 66 (January 2019=100) in June 2004, dropped slightly to 64.7 by the end of that year, but rose to 69.9 by June 2006. During this period, nationwide house prices increased by 5.92%, and Seoul saw a 10.49% rise.

The fourth U.S. tightening cycle coincided with the early years of the Park Geun-hye and Moon Jae-in administrations. During the Park Geun-hye government, then Deputy Prime Minister Choi Kyung-hwan even urged people to "buy houses with debt" as the real estate market was in a slump. Until April 2017, the housing sales price index rose only 1.45%, from 94.4 (December 2015) to 95.8, and Seoul’s increase was limited to 3.26% during this period.

However, after the Moon Jae-in administration took office, nationwide housing prices surged 4.34% by December 2018, with Seoul experiencing a sharp 14.24% increase. This again demonstrated that U.S. interest rate hikes were not the key trigger for house price declines. Rather, domestic policies such as strengthened taxation, loan restrictions, and supply measures had a greater impact on the real estate market.

◆ Market Impact Likely Limited This Year as Well = The prevailing view is that the situation will not be much different this time. Although there are forecasts that the U.S. may raise its benchmark interest rate seven times, the impact on the domestic real estate market, which is accessed by actual buyers, is expected to be limited. The current severe transaction freeze and adjustment phase are the result of multiple factors, including government loan regulations, a wait-and-see attitude ahead of the presidential election, and fatigue from rising house prices.

Lee Eun-hyung, Senior Researcher at the Korea Construction Policy Research Institute, said, "It should be noted that strict loan regulations have so far prevented individuals from obtaining loans to the extent they desire." However, if the Bank of Korea aggressively raises interest rates more sharply than market expectations in response to U.S. rate hikes, it could negatively affect buyer sentiment and worsen the transaction drought.

Especially if multi-homeowners, burdened by increased interest and tax costs, flood the market with supply, and if the new government’s promised supply surge materializes, interest rate hikes could function as one factor contributing to house price declines. Ham Young-jin, Head of the Zigbang Big Data Lab, said, "The interest burden on mortgage borrowers is expected to increase further," adding, "As the perception of rising interest rates grows, buyer sentiment will shrink further and transactions will be affected."