"The Biggest Challenge for Financial Market Stability This Year Is the Soft Landing of the Real Estate Market"

Seminar Hosted by Rep. Yoon Chang-hyun's Office: "Cheer Up Our Economy, Advancing Korean Finance"

[Asia Economy Reporter Yoo Je-hoon] The biggest challenge for financial market stability this year is identified as the 'soft landing of the real estate market.' The unprecedented pace of base interest rate hikes has frozen the real estate market, delivering a shock to real estate project financing (PF) projects with shortened funding structures, which could in turn lead to financial institutions' insolvency.

[Image source=Yonhap News]

At the 'Cheer Up Our Economy, Korea Finance Taking Off' seminar held on the 4th at the National Assembly Members' Office Building in Yeongdeungpo-gu, Seoul, hosted by the office of Yoon Chang-hyun of the People Power Party, Kim So-young, Vice Chairman of the Financial Services Commission, stated, "We must thoroughly manage the risks in the real estate market," adding, "We will normalize the market through regulatory easing such as tax reform and adjustments to regulated areas to ensure the real estate market achieves a soft landing."

Participants in the discussion identified the biggest risk facing the Korean financial market this year as the potential deterioration of real estate PF. They reasoned that if asset prices such as real estate fall due to rapid base interest rate hikes, the feasibility of projects worsens, making funding difficult, which could ultimately lead to financial institutions' insolvency. According to the Korea Real Estate Board, the nationwide apartment transaction price index rose by 34.7% (as of October 2021) after the COVID-19 pandemic but fell by 9.3% from the peak by October last year, just one year later.

Jung Woo-hyun, Director of the Supervision and Coordination Bureau at the Financial Supervisory Service, said, "Looking at past crisis phases such as the 1997 Asian Financial Crisis, the 2003 credit card crisis, and the 2008 global financial crisis, what follows immediately after the crisis is a crisis in real estate development projects," adding, "Since funds are rotated every 3-4 months through PF-asset-backed commercial paper (ABCP), there is no problem when things go well, but if market outlooks darken even slightly, refinancing becomes difficult, causing even sound projects to collapse, which can ultimately transfer to financial institutions' soundness issues."

Accordingly, financial authorities plan to focus on supporting the soft landing of the real estate market this year. Lee Hyung-joo, Director of the Financial Policy Bureau at the Financial Services Commission, said, "The core of supporting the soft landing of the real estate market is to prevent cases where real estate PF projects with feasibility cannot proceed due to liquidity crunches," adding, "Since housing market recovery is essential to securing PF feasibility, we are securing demand through special home mortgage loans such as the Special Bogeumjari Loan and considering measures such as converting PF-ABCP into long-term loans to resolve funding difficulties at PF project sites."

Director Jung also said, "We are intensively watching the real estate PF market and conducting feasibility assessments for each project," adding, "In preparation for future loan losses in the secondary financial sector, we are encouraging strengthening loss absorption capacity through provisions and capital increases based on preemptive stress tests." Additionally, equity-linked securities (ELS) products were evaluated as potential sources of crisis. Director Jung said, "Until this phase, there was no major problem as stock prices continuously rose and volatility was low," adding, "However, during the early COVID-19 period or rapid interest rate hikes, margin call incidents could cause liquidity shortages for issuing securities firms."

However, participants at the seminar assessed that the soundness of domestic financial institutions remains at a good level. Lee Jung-wook, Director of the Financial Stability Bureau at the Bank of Korea, evaluated, "Domestic financial companies have accumulated sufficient capital through the low-interest rate environment over the past decade, and policy institutions such as the Financial Services Commission, Financial Supervisory Service, Bank of Korea, and Ministry of Strategy and Finance have solid crisis response capabilities and crisis management systems."

Director Lee also said, "So far, the ratio of non-performing loans (NPLs) in financial institutions is very low, and through the accumulation of loan loss provisions and reserves, the coverage ratio for NPLs is about 230%, which is sufficient to respond to foreseeable losses," adding, "However, in the secondary financial sector, the proportion of vulnerable borrowers is relatively high, so proactive soundness management is underway for them."