KDI - Korea Development Institute - RESEARCH - Research Areas

Summary

Research Monograph KOR Korean Unique Regulations in Housing Market

We study regulations in the housing market, which are very unique and have great influences in Korea. Due to COVID-19, the housing market have experienced rapid changes. Thus, the government responded boldly with unprecedented policies. Among others, 3 special regulations are on the table for discussion. The first is the Land Transaction Permit, which was implemented to reduce demand on housing in specific regions. Second, the Price Cap on New Houses is investigated for housing supply policy. The final is a regulation on the contract renewal claims in the housing rental market.

Chapter 2 analyzes the direct and indirect price effects of the Land Transaction Permit (LTP), a selective regulation introduced in 2020 for high-priced houses in Seoul to stabilize skyrocketing prices. The LTP is an administrative regulation that requires local governments to permit transactions in designated "areas," and as of 2022, the total area covered by the LTP is about 9% of Seoul's land area.Houses in the LTP zone can only be purchased by buyers who are either homeless or will eventually become single-family homeowners, and they must actually live in the houses for two years immediately after purchase. In this study, we analyzed the price and transaction volume of LTP regulated and unregulated houses, focusing on "Jamsil-dong, Samsung-dong, Daechi-dong, and Cheongdam-dong," which were designated in June 2020. In the regulated area, the LTP scheme directly reduced transaction volumes by 38.3% and prices by 4.3% compared to unregulated areas. However, the LTP scheme unexpectedly had a positive price appreciation effect on homes located closer to the regulated areas. When unregulated dwellings are categorized according to their distance from the regulated area, we estimate that dwellings closer to the regulated area increased in price by 2.3% relative to dwellings further away, and this effect is larger the closer they are to the regulated area. It appears that some of the demand in the regulated area shifts to nearby unregulated areas with higher substitutability. The different direction of the direct effect on regulated areas and the indirect effect on nearby areas suggests that selective regulation, such as LTP, may not be the right regulatory approach to achieve the goal of stabilizing the housing market.

The next chapter, Chapter 3, examines the effects of the Price Cap on New Houses. This price cap, which limits the price of new homes, is one of the controversial regulations that raises concerns that it may limit housing supply in the future. However, this study's analysis found no evidence that the price cap reduces the supply of new homes. Although the pre-sale price cap limits the profits of housing construction projects, it is operated by reflecting all the costs of land and construction for housing supply. Even if the prices of newly supplied homes are limited by the price cap during the period when the housing price is on the rise, the sales of new homes is likely to increase as well. Thereby housing development projects are profitable enough to cover all the costs. Therefore, there appears to be no empirical evidence for concerns that future housing supply will be reduced by this price cap implemented during the housing market boom. However, these results are contradictory to the results of existing studies, so caution needs to be taken when interpreting them further.

Chapter 4 investigates the price impact of the deposit control imposed on the housing repo contract in Korea, known as Jeonse. Jeonse is a unique housing repo contract in Korea where the landlord borrows a deposit from the tenant, using the house as collateral. The tenant is granted the right to occupy the house during the contract period at the expense of the deposit’s opportunity cost. In July 2020, the Korean legislature passed a law granting tenants the right to renew the Jeonse contract once, with the new deposit amount not exceeding a 5% increase from the original amount. While this new regulation has been heavily criticized as the primary driver of the surge in Jeonse deposits during the pandemic, its actual price impact has not been properly estimated.

We estimate the value of the Jeonse renewal option monthly using option pricing techniques, based on reasonable assumptions about the housing price process and information gathered from the current term structure of interest rates. Our estimation results indicate that the deposit control regulation raised Jeonse deposits nationwide by only 0.97% and by 4.80% in Seoul at the time of the introduction of the regulation, a magnitude significantly lower than previously discussed in both media and academic circles. Furthermore, we demonstrate that the renewal option does not have any intrinsic value over the past 10 years, suggesting that the option can be considered pure insurance against an unexpected increase in the equilibrium level of Jeonse deposits by the time of expiry. Based on the background of the regulation and the results of our analysis, we provide policy suggestions.

Summary

Policy Study KOR Land Investment and Its Impact on Corporate Performance

This study builds upon the 2019 research, The Macroeconomic Implications of Land Purchases: A Study on the Net Purchase of Land by Corporations, by focusing on the accumulation of land assets by manufacturing firms. Utilizing microdata from the Mining and Manufacturing Survey, it examines the ratio of land assets to tangible assets and observes a pronounced increase in land assets among these firms. The study conducts a regression analysis to compare the performance of firms that invested in land with those that did not, covering a two-year period before and after the investment. Firms that invested in land showed a significantly higher rate of value-added growth compared to their counterparts, though this gap in growth rates diminished after the investment. In particular, the year of land investment coincided with considerably new investments in buildings and machinery, as well as an increase in employment.

In light of these results, the study confirms the role of land as a productive resource. Firstly, land investment exhibits substantial complementarity with other capital goods, evidenced by increased investments in buildings and machinery during land investment periods. Secondly, similar to machinery investment, firms often expand their capital stock in response to positive productivity or demand shocks. However, land investment tends to be more strategically aligned with expanding the firm's scale, which is reflected in the simultaneous increases in employment and value-added, leading to a reduction in labor productivity during periods of land investment.

While land investment is mainly observed in small and medium-sized enterprises and has increased since the 2000s, this study does not provide specific reasons for this trend. The causes of land investment, presumably linked to Korea's unique institutional, regulatory, and economic changes, call for further detailed research.

Summary

Research Monograph KOR A Study on the Effects of Farmland Regulations and Financial Support on Agricultural Productivity: Focusing on Agricultural Promotion Areas and the Direct Payment System

This study focuses on agricultural promotion areas and the direct payment system―the two most representative policies directly linked to Korea’s agricultural production―to examine their effects on agricultural productivity through theoretical and empirical analyses. The designation of agricultural promotion areas is deemed both a tool and a regulation as it helps secure sufficient farmland to stabilize the food supply but may also incur an infringement of private property rights. As such, the goal of enhancing agricultural productivity is viewed as a means to minimize the degree of infringement. Here, based on the fact that farmers are provided with differentiated payment depending on whether their land is a promotion area, agricultural promotion areas and the direct payment system are linked to examine how this affects productivity, while at the same time, each policy is assessed separately for their impact.

This study is composed of four sections. Starting with the background of this research, Part 1 outlines Korea’s key agricultural policies and the current conditions. Firstly, compared to major countries, Korea’s agricultural development has relied more on labor than on land to increase productivity. This is a small-sized, labor-intensive production structure and thus, not only is it cost inefficient but also highly dependent on government regulations and financial support. Furthermore, due to an increasing fiscal burden, falling rural population and population aging, Korea’s current agricultural production structure is not sustainable. Accordingly, a shift is needed in the production structure to a capital-intensive model using methods such as improving farmland scale and agricultural mechanization. Ultimately, efforts should be made to bolster Korea’s agricultural competitiveness, internally and externally, through the enhancement of productivity and to respond to the changes in the agricultural population structure.

Part 2 provides a theoretical perspective on the nature of the two policies. From the aspect of law and economics, the designation of agricultural promotion areas can be a substantial infringement of private property rights for farmland owners, and requires compensation. Accordingly, the section discusses the provision of additional fixed direct payments to such land owners, which is stipulated under current law.

Then, using a theoretical model, the authors show that the current system may have an adverse effect on agricultural productivity. Specifically, although the designation of agricultural promotion areas was intended to increase the efficiency of agricultural production, it could have a negative impact when the compensation is linked to the current direct payment system when it includes variable direct payments. The system was adopted to optimize agricultural production taking into account the significant restrictions to the property rights of farmland owners. However, the system’s unique structure and additional fixed direct payment give rise to the possibility that the incentives in relation to agricultural production may become distorted.

Part 3 draws on the agricultural TFP growth rates and indices for the nine provinces and overall nation using the Tornqvist productivity index, and examines their trends. Two empirical analyses are then conducted to look into the effects of the designation of agricultural promotion areas (farmland regulation) and financial support (direct payment system) on agricultural productivity.

In the first analysis, based on data compiled for the respective provinces in 2013-2017, the productivity index is fixed as a dependent variable and the determinants of productivity are analyzed in a reduced-form model. The key explanatory variables are the share of agricultural development areas within the respective provinces’ farmlands and the amount of compensation for agricultural damages—a category that includes the variable direct payment. Meanwhile, the macroeconomic aspects such as the national R&D stock and climate and economic conditions are controlled. The results show that an increase (decrease) in the share of development areas due to additional designations or maintenance has a negative (positive) effect on agricultural productivity. This contradicts the intended goal, and becomes even more so from 2005 onwards when the direct payment to compensate for rice income was introduced. This can be considered an indirect evidence of a possible deterioration in the productivity of promotion areas which are under the variable direct payment system as presented in the theoretical analysis in Part 2.

In the second analysis, three analysis periods are established―2003-2007, 2008-2012 and 2013-2017―and the components of productivity in the structural model are examined using farm level panel data. In particular, unlike the Tornqvist index which assumes that technological efficiency is always achieved, this empirical analysis examines the TFP in terms of the scale effect according to the degree of returns to scale (RTS); technological change (TC) and; technological efficiency (TE). All three periods fail to show any changes in the returns to scale, and the 2013-2017 period reveals a regression in the technological level with some significance. Lastly, an analysis is conducted on the effects of financial support for farms and their various characteristics on technological inefficiency (distance from production frontier). According to the analysis, an increase in compensation for agricultural damages and subsidies relative to farmers’ income leads to a statistically significant decrease in technological efficiency. In particular, the negative effects from compensation seems to even amplify for rice producing farmers.

Part 4 presents the direction to improve the system based on the discussions at home and abroad in regards to the reform of agricultural subsidies. Compulsory regulations for farmland inevitably entail compensation, but the current method of linking farmland regulations with direct payment does not contribute to the purpose of compensation or to the enhancement of productivity. Accordingly, compensation should be provided explicitly and independently, and should not be linked to direct payments. In addition, the designation of promotion areas should be more flexibly managed rather than being unconditionally maintained, taking into account the improvements to productivity. On the other hand, considering that the direct payment itself can cause inefficiency in production and that this is would worsen if the payment is linked to the production of a particular crop, policymakers need to take caution when determining the amount of direct payment. Also, they must reform the current system so that it is not linked to production activities, as recommended by agriculturally developed countries and the WTO. This will help to ensure an increase in productivity while providing effective compensation for regulatory losses.

Summary

KDI Policy Forum Korea’s Housing Supply: Issues and Resolutions

■ Korea’s housing supply ratio, based on the number of households, and housing stock, based on population size, are rising rapidly on the back of large-scale provisions of apartments.

■ The supply market, however, has become highly volatile, with sharp recurring ascents and descents, and the recent spike, in particular, has become a burden on the construction industry and housing market, among others.

- Following an unprecedented increase in the housing supply in 2015-2017―even by basic housingdemand standards―the number of unsold new housing has continued to rise as the supply of housing completions and move-ins continue to enter the housing market.

ㆍThe increase in unsold new housing after completion could negatively impact the financial soundness of construction firms as well as housing finance-related institutions.

- In addition, a reverse-jeonse phenomenon is expected this year, in which tenants may possibly encounter cash flow problems while landlords face growing pressure as they deal with increasing difficulties in finding new tenants and returning jeonse deposits on time.

■ Therefore, efforts are needed from the government in seeking measures to curb the volatility in the housing supply.

- Construction firms should be bound by a higher equity burden and housing finance-related institutions should be more specialized and have more responsibility.

- A demand-centric housing supply system, which can meet the needs arising from social change, including low birth rates, population aging and increasing single-person households, is required.

Summary

Policy Study KOR Studies on Public Expropriation

Based on the spatial and land price data of innovation cities and their periphery areas in Korea, this study examines the degree and timing of changes in land price in relation to projects concerning innovation city. The study result confirms that the current system is inconsistent with the principle of restitution of development gain and therefore, this study attempts to seek improvement measures so that the current system can better fit the principle.

The analysis reveals that most innovation cities, excluding Sinseo- dong of Daegu and Ujeong-dong of Ulsan, recorded a statistically significant increase in land prices since 2005, compared to those of their neighboring areas. It can be said that the information related to projects concerning innovation city was reflected in the land price since 2005. However, the standard land price pursuant to Article 70 of the Land Compensation Act is the officially assessed land price released on 1st of January 2007, and this official land price was actually applied to the compensation process. Therefore, estimating the compensation amount for land expropriation based on this land price will contradict the principle of restitution of development gain. In other words, despite the fact that development-related information was already reflected in land prices of innovation cities from 2005 to the end of 2006, the compensation process were carried out without institutional arrangements or efforts to exclude such reflection.

To solve this problem, this study makes two suggestions. First, it is necessary to cast aside the limitations of the official land price that can be retroactively applied in accordance with Paragraph 5 of Article 70 of the Land Compensation Act, and instead apply the land price which is the most latest but deemed to have no reflection of development gains. Based on this revised standard land price, if the compensation amount is corrected by the average inflation rate and the average rate of increase in land price during the period until the time of the recognized land price, the amount would better satisfy the principle of restitution of development gain.

Second, it is necessary to clearly stipulate the standards of development gains being reflected on the land price by including it in the secondary legislation. Under the current system, it is highly likely that appraiser's arbitrary interpretation on development gains is included in the process of calculating the amount of compensation for land expropriation. In this regard, it is necessary to improve the standards on determining whether development gains are reflected based on the results of this academic research and the existing guidelines for appraisal of compensation for land expropriation published by the Korea Association of Property Appraisers.

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