Why Did House Prices Rise Despite Stricter Loan Regulations? 'Money Supply, Balloon Effect, Housing Price Expectations'

Financial Support Continues + Regulation After COVID-19 Crisis
Government Macroprudential Policy Effectiveness Declines Gradually

[Asia Economy Reporter Kim Eunbyeol] Although the government’s household loan regulations have been increasingly tightened, loans have continued to rise, and the upward trend in housing prices has actually strengthened. This is evaluated as the effect of household loan regulations weakening because money was injected to reduce the negative economic impact during the early spread of COVID-19.

According to the "Financial Stability Status" report released by the Bank of Korea on the 24th, the total volume control effect of loan regulations shows contrasting patterns before and after the COVID-19 outbreak. From 2017 to 2019, before COVID-19, after regulations were strengthened, the increase in housing mortgage loans and other loans by financial institutions slowed down or turned negative, but after COVID-19, the upward trend actually expanded.

Unlike before COVID-19, despite the strengthening of regulations, the rise in housing prices expanded further. At the end of last year, the Loan-to-Value ratio (LTV) was 45% and the Debt-to-Income ratio (DTI) was 46%, which were stricter than before COVID-19 (55%, 48%), but the housing price growth rate jumped from 0.35% to 1.36% during the same period. In particular, the effect of loan regulation strengthening in regulated areas weakened significantly compared to the past. The government’s strong regulations in Seoul, Gangnam-gu, Seocho-gu, Songpa-gu, and other areas saw a sharp decline in regulatory effectiveness.

The Bank of Korea’s model-based estimation of the impact of DTI regulations on household loans and housing prices analyzed that recently, the magnitude and duration of the impact have weakened compared to the past.

The Bank of Korea cited the following as reasons for the reduced effectiveness of the government’s macroprudential policies: ▲financial support measures in response to COVID-19 ▲asset price rise expectations based on abundant liquidity ▲balloon effects due to regulatory arbitrage.

A Bank of Korea official explained, "Since macroprudential policies for financial support were implemented together after COVID-19, the effect of household loan regulations weakened," adding, "Although LTV and DTI regulations were strengthened to make borrowing more difficult, banks’ loan supply capacity expanded after the COVID-19 outbreak, reducing the effect." It is analyzed that contrary to the direction of LTV and DTI regulations, the easing stance of monetary policy inevitably continued for a considerable period as COVID-19 persisted, and the large amount of money circulating in the market pushed up housing prices.

The Bank of Korea also pointed out that the increase in loans and housing prices was due to the increased risk appetite and profit-seeking tendencies of economic agents, supported by abundant market liquidity after the COVID-19 spread. The Bank of Korea stated, "Investors’ risk appetite has strengthened, and in the real estate market, concerns about housing supply shortages along with increased profit-seeking tendencies have intensified supply-demand imbalances and expanded expectations of housing price increases."

Another cause cited was the expansion of balloon effects as some borrowers took advantage of regulatory arbitrage in response to the government’s tightening of loan regulations. As the government tightened bank loans, more loans were taken from non-bank institutions where borrowing is easier, and as housing mortgage loans became difficult to obtain, many people took out unsecured loans, which is a representative example of balloon effects due to regulatory arbitrage. According to the Bank of Korea, loans shifted to non-banks, where the Debt Service Ratio (DSR) regulation is more relaxed, increased from 2.5 trillion won in Q3 2019 to 5.7 trillion won in Q1 this year, more than doubling. The proportion of unsecured loans in housing purchases also rose from 28.1% in Q4 2016 to 32.1% in Q1 this year. This indicates that the proportion of unsecured loans increased as LTV regulations were strengthened.

The Bank of Korea stated, "After COVID-19, unlike before, a financial boom and real economy slump appeared simultaneously, leading to a different policy mix than in the past," adding, "While strong loan regulations to suppress credit expansion were implemented, policy responses to support real economic recovery eased financial conditions, which raised asset prices and deepened financial imbalances." Furthermore, it emphasized, "Policy responses are needed to reduce the degree of financial easing to mitigate excessive risk and profit-seeking tendencies."

This content was produced with the assistance of AI translation services.