As jeonse backfires, Korea wants a managed exit technique

Kang Kyeong-hoon
 
The writer is a professor of Enterprise Administration at Dongguk College




 
Korea’s jeonse — a singular housing lease system — relies on a cross-collateral construction hardly ever seen elsewhere. Landlords present their properties as collateral in trade for big deposits, and tenants present the deposits as financing. In financial concept, jeonse features as an environment friendly monetary contract. When people who have no idea one another try and trade giant sums of cash, banks are usually required to mediate and take in credit score dangers. Jeonse bypasses that want.
 

Whereas the jeonse price-to-sale ratio of flats in Seoul and the better metropolitan space continues to rise, the ratio has been declining within the villa market — particularly in low-priced villas generally utilized by lower-income households and younger folks — as a consequence of avoidance following widespread jeonse fraud and a shift towards month-to-month lease. The photograph reveals condo complexes and villas seen from Mount Namsan in central Seoul on Feb. 2. [YONHAP]

 
Bengt Holmström, an MIT economist and recipient of the 2016 Nobel Prize, argued that pawnshop-style financing is environment friendly, as excessive collateral relative to the mortgage worth lowers data prices. Jeonse works by the identical logic. In durations when monetary markets have been underdeveloped, it enabled homebuyers to borrow with out financial institution monitoring, whereas tenants paid no curiosity or month-to-month lease. Students Kim Se-jik and Shin Hyun-song have famous that jeonse contributed to Korea’s fast progress by rising each saving and funding.
 
However the system is determined by key assumptions. Housing costs should stay considerably greater than jeonse deposit values for tenants to really feel safe. In previous many years, robust financial progress and inhabitants will increase meant house values rose persistently, satisfying that situation. Rising house costs additionally inspired landlords to desire jeonse over month-to-month lease, permitting them to purchase extra properties with deposit financing.
 
These circumstances now not maintain. Structural shifts — low progress and inhabitants decline — are eroding the foundations of jeonse. In locations the place house costs are stagnating or falling, the system’s dangers have gotten extra seen. Cheap villas and multiunit properties have seen rising numbers of “cart jeonse” circumstances, the place house values fall beneath the deposit quantity, leaving tenants unable to get well their cash.
 
Statistics present that jeonse is already in retreat. In line with the Ministry of Land, Infrastructure and Transport, month-to-month lease accounted for 43 % of rental transactions in 2021, 57.4 % final 12 months and 62.6 % as of September this 12 months. But, in components of Seoul and surrounding areas the place expectations of rising costs persist, jeonse-based hole investments stay widespread. Traders purchase properties by including deposits to minimal private capital. Excessive leverage results in greater returns, encouraging extra funding, fueling house value will increase and making credit score extra accessible. In consequence, jeonse is deepening polarization within the housing market.
 
 
On the identical time, jeonse has developed right into a type of casual finance linked to family debt by means of hole investments. Korea’s family debt is already among the many world’s highest as a share of GDP. If jeonse deposits are counted, the ratio turns into the best globally. What started as a system that helped tenants entry housing is now a channel for monetary instability.
 
Briefly, jeonse has shifted from being a purposeful housing and monetary software to a supply of systemic danger. It as soon as helped tenants keep away from month-to-month lease and served as a stepping stone to homeownership. In the present day it generates nervousness over deposit returns, will increase assure insurance coverage payouts and provides to family debt. Coverage should now give attention to controlling these dangers and guiding the system towards an orderly transition.
 
First, speculative demand utilizing jeonse loans have to be curbed. Loans supposed for housing stability have been diverted into hole investments, undermining the system’s legitimacy. The federal government ought to tighten lending requirements and steadily limit assist for households with substantial belongings. It must also contemplate together with jeonse deposits in debt service ratio (DSR) calculations. Though legally thought of rental deposits, they operate like loans. Given the buildup of family monetary dangers, integrating jeonse into the broader debt administration framework is unavoidable. A gradual strategy would forestall market shocks.
 
Second, the jeonse assure system wants reform. Whereas assure insurance coverage is crucial to guard tenants, excessively excessive assure protection weakens tenants’ sense of contractual accountability. Policymakers may decrease protection ratios or introduce co-payment necessities to strengthen accountability.
 

Victims of jeonse fraud scams grieve the lack of one other sufferer throughout a press convention held in entrance of the Nationwide Meeting constructing in Yeouido, western Seoul on Might 11, 2023. [NEWS1]

 
On the identical time, tenant protections needs to be strengthened. Landlords needs to be required to reveal credit score data, and mechanisms needs to be put in place to inform tenants promptly of any property switch or collateral registration. Introducing a jeonse belief system can also be value contemplating. Below such a system, a trustee would handle deposits, lowering the danger of landlord default.
 
Jeonse is a product of its time. It helped flow into funds when monetary markets have been underdeveloped and supplied advantages to each landlords and tenants. However underneath circumstances of low progress and demographic decline, its sustainability is weakening. As month-to-month lease turns into extra prevalent, the federal government ought to contemplate increasing lease subsidies and tax deductions to ease housing prices. Over the mid-to-long time period, insurance policies should guarantee housing stability for low- and middle-income households with out counting on jeonse
 
Because the system winds down, policymakers should anticipate and handle unwanted effects. A construction embedded in society for many years can’t disappear in a single day. A disorderly collapse would shock the housing market. What is required is a rigorously deliberate exit — one which protects each housing stability and monetary stability. It’s time to shut the period of jeonse with order, not chaos.