Property Woes To Impinge Further On Economy


BMI View: Despite having been one of the regional underperformers in recent years, we still expect further weakness in South Korea's housing market. Structural downside pressure in the form of a supply overhang situation and deteriorating demographics will continue to push prices lower. This is likely to carry adverse ramifications for the broader economy as consumption spending is stifled, as well as banks which have a considerable portion of their loan books tied to the housing market. For now, while we are sticking to our neutral stance on interest rates, we highlight, however, that the scope for further monetary easing is increasing and further ill-boding data may cause us to alter our views.

Moribund state of the housing market: There appears to be no end in sight to the slump in South Korea's housing market. Recent data shows that the decline in Seoul's house prices continues unabated, with the contraction accelerating from 4.7% year-on-year (y-o-y) in January, as compared to the 4.5% print registered in December. Seoul property prices have now been in contraction for a full two and a half years (see chart). Indeed, a report released recently by the Korea Development Institute (KDI) shows apartment transactions to have witnessed their largest fall in six years in 2012, declining 21% during the year. On the whole, housing prices in South Korea witnessed a miniscule gain of just 2.9% through 2012. This contrasts strongly with regional economies (such as Hong Kong, Singapore, Taiwan and Malaysia), which, despite the relatively bleak economic backdrop, have witnessed robust growth within their real estate markets.

Stuck In The Doldrums
South Korea - Housing Price, % chg y-o-y

Structural downside pressure remains: The developments in South Korea's housing market have been pretty much in line with our expectations (see our online service 'North East Asia Property Markets Facing Strains', March 5, 2012). Looking ahead, we are maintaining our call for weakness in the housing market. The supply overhang situation is likely to persist as housing starts presently remain relatively elevated, even as the bulk of the surge in housing construction that began in 2011 is slated to come online in the coming two years. Meanwhile, demand is also expected to come in weaker in the near-term, as economic uncertainty prevails, as well as in the longer-term, as South Korea's demographics start to deteriorate. According to the United Nations, South Korea is expected to become an aged population and super-aged population by 2018 and 2026 respectively. To put things in perspective, Korea's housing supply ratio, which measures the total housing supply to the number of households, has continued to steadily creep up in recent years. Taking into consideration the fact that the active population is estimated to start declining in 2014, we can expect to witness structural downward pressure on house prices.

Ill-Boding For Property
South Korea - Housing Supply Ratio (LHS) & Housing Starts (RHS), mn square meters

Macro, banking implications: Continuing housing weakness in South Korea will carry implications for the broader economy. Real estate accounts for an estimated 70% of total household assets and is consequently likely to crimp consumption spending, which, itself has already been impinged by mounting household debt. Moreover, as part of our core scenario, we do not expect the economic recovery in Korean exports to extend beyond H113 as economic momentum from the upcycle in China starts to fade.

Korean banks are also likely to be adversely affected given that housing loans account for a considerable portion of banks' total loan book. To begin with, domestic banks have already started to exhibit incipient signs of weakness, having recently reported a 23.2% fall in combined net profits in 2012. A lingering low-interest rate environment is likely to keep banks' net interest margins compressed going forward. With household debt levels already at heightened levels, loan growth potential remains capped. Additionally, given that Korean banks presently have little international exposure, they are unlikely to count on overseas revenue for significant profit generation. With the housing market likely to remain depressed for an extended period of time, banking profitability is likely to be hit further.

Remaining netural, for now: In light of these concerns, we highlight that the scope for further monetary easing is increasing. Indeed, the KDI estimates that a one percentage point decline in interest rates translates into a 2.8% rise in home prices. With inflationary pressures likely to remain capped, policymakers gradually turning downbeat on economic growth prospects and the property market stuck in the doldrums, monetary policy is likely to becoming increasingly accommodative. While the Bank of Korea may have decided today to keep the benchmark interest rate on hold at 2.75%, this is likely to have come about as the central bank waits to assess the fiscal measures that will be introduced when the new president Park Geun-hye assumes office on February 25. Indeed, one BoK board member remarked recently that monetary policy displayed more efficacy when used in tandem with fiscal policy. For now, while we are sticking to our neutral stance on interest rates, we highlight that the scope for further monetary easing is increasing and further ill-boding data may cause us to alter our views.

This article is tagged to:
Sector: Country Risk, Real Estate
Geography: South Korea, South Korea, South Korea, South Korea

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