Can Housing Prices Be Justified By Economic Fundamentals? Evidence From Regional Housing Markets In Korea

In this study, we use a present-value approach to examine the dynamics of six regional housing markets in Korea. The large upswing in the price-rent ratio accompanied by intermittent ups and downs, which are typical features of the Korean housing market since the mid-1980s, is captured by a periodically collapsing bubble incorporated into an otherwise standard present-value model. The movements in the actual price-rent ratio are then decomposed into movements explained by the expectations of housing market fundamentals (i.e., rent growth, risk-free interest rate, and excess returns from housing investment) and the speculative bubble. In all the six regional markets, most of the variations in the fundamental part of the price-rent ratio are explained by the expected risk premium of housing investment and the expected risk-free returns, whereas the expected rent growth account for relatively small fractions of the variations. The bubble has continuously accumulated since the earl ? 2000s in all the six regions and has reached as high as 70% of house price by the end of 2017.