The effects of macroprudential policies on house prices: Evidence from an event study using Korean real transaction data Journal of Financial Stability

Abstract This study analyzes the impact on housing price growth of targeted macroprudential policies—specifically limits on the loan-to-value (LTV) and debt-to-income (DTI) ratios in Korea, one of the few developed countries with relatively long and successful experience in implementing these policies. Using an event study methodology with real-transaction data for a monthly panel of 73 districts, we find that DTI limits play important roles in stabilizing housing prices than LTV limits. The loosening of both DTI and LTV limits boosts house price growth whereas the tightening only of DTI limits reverses it. After factors other than implementation of these regulations are controlled for, the results are robust except for the cases of LTV loosening. Furthermore, we uncover that the levels of and extents of changes LTV limits are important factors that can amplify or reduce the regulation effects. Overall,the results suggestthat macroprudential policies, especially DTI limits, can be useful tools for curbing excessive household debt and subsequent house price bubbles. Keywords:House prices;Macroprudential policies;LTV;DTI;Event study

Contents 1. Introduction 2. Background of the Korean LTV and DTI regulations 3. Data sources and methodology 4. Empirical results 5. Summary and concluding remarks

1. Introduction Macroprudential policies, which in this paper refer specifically to caps on the loan-to-value (LTV) and debt-to-income (DTI) ratios,have been implemented mainly since the early 2000s, in the contexts of volatile housing and financial market cycles in emerging countries. The purpose of our paper is to therefore offer an empirical assessment of the impacts of these macroprudential policies – LTV and DTI limits –on housing prices in Korea, by using an event study methodology with a unique disaggregated dataset. We focus especially on the policy effects on housing prices because macroprudential policies are aimed at mitigating excessive housing price inflation as well as credit growth, and housing wealth is a more important sourceof household wealth accumulation than financial assets .

1. Introduction Most studies have dealt with this issue from an aggregate perspective, using cross-country panel or single-country data. A number of cross-country studies have investigated the effects of macroprudential policies on credit growth, bank leverage3 and housing price dynamics. A few studies have meanwhile investigated the impacts of macroprudential policies on housing prices and credit growth in single countries such as the Hong Kong SAR and South Korea. In addition to empirical analyses, there has been a growing amount of literature examining whether macroprudential policies are effective in mitigating financial cycles and improving welfare using general equilibrium models .

1. Introduction Our contribution to the literature stems from our focusing on the effects on housing prices following changes in these macroprudential policies. Our results showing the short-term policy effects can be helpful for policymakers and regulators attempting to make quick decisions based on current financial conditions. Furthermore,to our knowledge this is the first study to have examined the effects of macroprudential policies on house prices by using real transaction data at the district level, at which the regulations are implemented. This study sheds further light on the effectiveness of LTV and DTI limits, in addition to showing whether the effects of regulatory tightening and loosening are symmetric. It should therefore provide important lessons for policy authorities implementing LTVand DTI regulations for purposes of coping with surges in housing prices and credit extension.

2. Background of the Korean LTV and DTI regulations In the wake of the Asian currency crisis in 1997–1998 banks shifted the focuses oftheir business strategies from corporate to household lending. After the crisis household debt increased continuously together with a run-up in house prices. In order to avoid a potential market collapse due to further surges in house prices and household debt, the Financial Supervisory Service (FSS) established its own Macroprudential Supervision Department, which it charged with assessing systemic risk factors through operation of an early warning system and formulation of macroprudential policies.

3.Data sources and methodology 3.1. The data set 3.2. Methodology In this section we introduce an event study approach to assess the effectiveness of the LTV and DTI regulations..While this approachhas generally beenconducted in the stock or bond markets using high frequency data, it has been also applied to the housing markets using low frequency. We collect information based on the months when the LTV and DTI regulations came into effect after press releases by the Financial Supervisory Service (FSS) and the Ministry of Strategy and Finance.We obtain the monthly house transaction prices, trading frequencies and total numbers of households from the Ministry of Land.

3.Data sources and methodology Specifically, we calculate the abnormal return using the constant mean return and market return models with the following equations: 3.2. Methodology

4.2. Baseline regression: effectiveness of macroprudential policies 4. Empirical results 4.2. Baseline regression: effectiveness of macroprudential policies 4.1. Univariate results In summary, our results suggest that the LTV regulations are limited in effect to only the cases of their loosening, whereas the DTI regulations are effective in the cases of both their tightening and their loosening. The DTI regulations contribute to stabilizing house prices. The results are robust regardless of the dependent variable, either ARCMR or ARMR.We also confirm that most of the control variables associated with average abnormal returns have signs consistent with our expectations. 4.1 4.2

4. Empirical results 4.1. Univariate results

4. Empirical results 4.1. Univariate results

4.2. Baseline regression: effectiveness of macroprudential policies 4. Empirical results 4.2. Baseline regression: effectiveness of macroprudential policies

4.2. Baseline regression: effectiveness of macroprudential policies 4. Empirical results 4.2. Baseline regression: effectiveness of macroprudential policies

4. Empirical results 4.3Effectiveness of macroprudential policies: magnitudes of LTV and DTI limits 4.4. Robustness checks we can summarize our results as follows: First, after controlling for the levels and magnitudes of changes in the LTV and DTI limits, the regulatory effects of the LTV and DTI limits are consistent with the results presented earlier. Second, we need to be cautious in setting the levels of and changes in the LTV regulations, as these settings tend to directly influence the magnitude of the regulation effects. Adding macroeconomic or time dummy variables; Using different event windows; Analyzing monthly regulation effects; Analyzing the impacts of different types of regulations:speculative zones and banks; 4.4 4.3

4. Empirical results 4.3Effectiveness of macroprudential policies: magnitudes of LTV and DTI limits

4. Empirical results 4.4. Robustness checks

5. Summary and concluding remarks Using district-level real transaction data, this paper has investigated the effects of macroprudential policies—LTV and DTI limits—on house price growth in Korea, over the period from March 2006 to June 2015. We find that these macroprudential policies, and the DTI regulation in particular, appear to play important roles in stabilizing house price growth Overall, our study provides important lessons for policy authorities who are implementing LTV and DTI regulations to cope with surges in housing prices and credit expansions. We have extended the existing literature in two important ways.

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