July 24 (Bloomberg) -- South Korea will loosen home-loan restrictions, risking worsening a record household debt problem as President Park Geun Hye seeks to revive a stagnant property market to boost Asia’s fourth-biggest economy.
The loan-to-value ratio will be lifted to 70 percent for all transactions, while the debt-to-income ratio will be raised to 60 percent, a 10 percentage point bump for buyers in Seoul, the largest market, the finance ministry said today. Younger people will also be allowed to borrow against a longer period of future income.
Lowering hurdles for property purchases on credit is part of a stimulus package aimed at spurring growth that fell in the second quarter to the slowest pace since early last year. While the steps could support a real-estate market that’s seen prices drop for four straight years in the capital, the task for Park is to avoid inflaming household debt that the government has said restrains consumer spending.
“In the current market, easing the rules would likely lead to an increase in low-quality borrowers rather than the high-quality borrowers,” said Heakyu Chang, director at Fitch Ratings in Seoul. The changes have “the potential in the longer term to aggravate a household debt ratio that is already high.”
Park is seeking to support an economy that slowed after a ferry accident left more than 300 people dead or missing in April, prompting consumers to cut spending on entertainment and travel in mourning. Growth slumped to 0.6 percent in the second quarter -- lower than a median estimate of 0.7 percent in a Bloomberg News survey -- from 0.9 percent in the prior period.
Today’s measures loosen caps that the government imposed in the mid-2000s when the property market was booming. The debt-to-income ratio, which measures a borrower’s ability to repay, and the loan-to-value ratio, a gauge of loan size to the underlying collateral, currently vary by location. The rules are tightest in Seoul, where LTV and DTI ratios are capped for most borrowers at 50 percent to 60 percent, depending on property values and lending institutions.
Applying uniform limits across the nation could improve debt quality by encouraging borrowers that pay higher interest rates at non-banking institutions to refinance their loans, according to the finance ministry.
Previous efforts to revive the property market have had little lasting effect. Park’s government in August last year announced a plan to reduce home-purchase taxes. The previous administration temporarily eased mortgage-loan rules and gave tax breaks to home buyers.
Apartment prices in Seoul fell for four straight years through 2013 after nearly tripling over the previous 11 years, according to Kookmin Bank, the nation’s biggest mortgage lender.
Finance Minister Choi Kyung Hwan likened current lending rules to “wearing a summer jacket on a winter day” in comments to reporters before his appointment earlier this month.
The government should be cautious about easing mortgage rules as further price declines in the property market could worsen the household debt problem, the state-run think-tank Korea Development Institute said in a report on June 25.
“A property price drop could lead to a credit crunch, which could create a vicious cycle in which the economy loses vitality with households under pressure to reduce debt amid asset price declines,” KDI said in the report.
Household debt including loans and credit purchases, stood at a record 1024.8 trillion won at the end of March, including 422.2 trillion won in mortgage loans. The total debt was more than double the 494.2 trillion won at the end of 2004, according to the Bank of Korea.
President Park said in February her government aimed to reduce household debt as a proportion of disposable income by 5 percentage points by the end of 2017. The ratio was at 163.8 percent at the end of 2012, higher than that of the U.S. and Canada and above the average 134.8 percent for members of the Organization for Economic Cooperation and Development, the Financial Services Commission said at the time.
“Without resolving the household debt problem, it’s hard to expect to vitalize domestic consumption,” FSC Chairman Shin Je Yoon said on Feb. 27.
South Korea’s economy expanded 3 percent last year, less than half the 6.5 percent growth in 2010. The BOK lowered its growth forecast for this year to 3.8 percent from 4 percent on July 10, citing weaker-than-expected domestic demand.
“Encouraging property transactions out of debt is close to gambling. It could form more debt and bubbles,” opposition New Politics Alliance for Democracy lawmaker Oh Jae Sae said during Finance Minister Choi’s nomination hearing earlier this month. “Our bigger task is to make sure that household debt stays contained, rather than reviving the property market.”