Caution should be used in manipulating market
The following article was submitted by Choi Ho-sang, chief researcher at Samsung Economic Research Institute (hschoi@seri. org) -- Ed.
An upward tendency of domestic housing prices recently has been spreading across the nation. The housing price growth rate which stayed at around 1.0 percent on average in 2004 and 2005 soared to 5.7 percent for the first 11 months of 2006. Moreover, apartment prices in Gangnam jumped 17.5 percent compared to the previous year, sharply exceeding the annual growth rate of 6.1 percent recorded in 2005. Housing prices of the Gangbuk area in Seoul and other major cities have shown upward tendencies in 2006 compared to the previous year as well. In addition, prices of singlefamily homes and townhouses which showed
downward tendencies during the same period in 2004 to 2005 also began to rise. We can't be optimistic about future housing prices either. The recent rising trend of real estate prices has triggered a capital influx into the equity market again and such a situation may cause a further increase of property prices. Besides, rent deposits of houses have been on an upward curve, pushing up the entire housing price.
To find out whether or not a bubble exists in domestic real estate price market, I estimated theoretical prices using model housing prices and then compared them with real prices. According to the result, there exists a bubble of a considerable size and the interest rate was a main factor of the formation of the bubble. As of the first half of last year, nationwide housing prices are inflated by about 17.0 percent, among which 11.6 percentage points, or about two-thirds of the entire bubble, were due to interest rates. The remaining 5.4 percentage points were due to other factors. The bubble takes place owing to the actual interest rates being lower than the market rates, as well as housing price overshooting by expectations like speculation. The nationwide apartment prices expecially are inflated by about 32.4 percent during the same period with the interest rates accounting for 70.9 percent of the bubble, bigger than that of the housing prices.
If interest rates are lowered to stimulate the economy which has shown a clear downward tendency, there may be serious side effects such as deepening insecurity in the property market. The effects of interest rate cuts on consumption or investment have been insignificant for the past five years. Additionally, when the housing market became insecure due to lowered interest rates, the government took measures to stabilize the real estate market, which brought about contraction in consumption. However, it was discovered that interest rate cuts significantly raised housing prices.
Therefore, raising the interest rates may look like the most effective way to resolve the property market insecurity, but it is difficult to hike the interest rates under the current economic situations. This is because when the household debt level is worrisome owing to impact of soaring housing prices, the sharp interest rate hikes may damage households and financial institutions. In consequence, it may be desirable to promote the economy by easing regulations or employing financial measures. For short-term stability of the real estate market, it is necessary to consider ways to control capital supplies, such as restricting loans for speculative purposes. To this end, financial support for speculative demands should be curbed from the housing loan market.
