Will `canned apartments` cause an economic shock?

Many Koreans cannot repay their debts even after they auction off their apartments, which are called “canned apartments." GGI Auction, a real estate auction company, found that lenders who had apartments in the Seoul metropolitan area as collateral had uncollected receivables of 62.37 billion won (54.5 million U.S. dollars) last month alone, more than twice the volume of the same month last year (29.3 billion won or 25.6 million dollars).

The number of such apartments increased as auction prices fell due to lack of real estate transactions and falling market prices in the wake of a lackluster economy. "Jeonse," or a rental fee based on a lump sum key deposit for apartments, increased by 0.3 percent in Seoul in the first half of this year from the end of last year. Sales prices dropped 1.5 percent. Jeonse has increased but sales prices have not budged. The sales prices of apartments in affluent areas such as the Gangnam, Seocho, Songpa and Yangcheon districts of Seoul, the Bundang ward of Seongnam, and Yongin, Gyeonggi Province, fell around 10 percent.

Due to a serious downturn in the real estate market, Byuksan Construction, ranked 26th in Korea, filed for court receivership. A large number of builders are also on the brink of bankruptcy. This could spell doom for the up to 85,000 real estate agencies nationwide, not to mention service providers such as wallpaper, interior design and moving companies. These are the jobs that low-income households rely on.

Since Korea’s average loan-to-value ratio is only 46 percent, a crisis like the U.S. subprime mortgage crash in 2007 is unlikely. Yet Korea should not stay complacent, however. In March, household liabilities reached 911 trillion won (797 billion dollars), with 43 percent of them mortgages. In May, Korean banks had a delinquency ratio of household debts of 0.97 percent, the highest in 67 months. Unless borrowers repay debts by selling their apartments, they are likely to have bad credit. This will in turn mean trouble for lenders including banks. The biggest victims, however, will be senior citizens who used up financial assets for their children and merely have real estate assets.

The government should help prevent the real estate doldrums from resulting in a reverse asset effect and recession in the domestic economy or increased household debts and troubled financial institutions. What is needed is a policy that can minimize the impact of the lackluster real estate market. The government must alleviate the bottleneck area that prevents buyers with good intentions from buying a house and take policy action that does not dampen the investor sentiment of companies and households.

Excessive pump-priming with the upcoming presidential election in mind could cause a bigger adverse impact. The national ratio of disposable income to household liabilities in the third quarter of last year was 155 percent, higher than the stressed eurozone economies of Spain, Portugal, Greece and Italy. Korea should stay vigilant against moral hazard, which causes reliance on further debts.