With the Bank of Japan’s benchmark rate having stood at minus 0.1 per cent since 2016, mortgage rates have been driven down to ridiculously low levels. Floating-rate loans are as cheap as 0.3 per cent while the so-called “Flat 35” – the 35-year fixed-rate mortgage provided by the Japan Housing Finance Agency – can be secured for as little as 1.6 per cent.
Yet, while Japan’s mortgage rates are incomparably lower than those in other advanced economies, they are exacerbating long-standing problems in the country’s housing market.
First, negative rates have pushed borrowers to take out variable-rate mortgages, which now account for more than 70 per cent of outstanding loans, up from just over a third in 2008. With core inflation having hit a 40-year high of 3.6 per cent in October, the BOJ is under mounting pressure to begin normalising policy next year amid signs that wages are finally about to start rising.
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Japanese yen plunges to 32-year low as government steps in to prop currency
Japanese yen plunges to 32-year low as government steps in to prop currency
Even a modest increase in rates could come as a shock to vulnerable borrowers, especially if Japan’s exit from ultra-loose policy proves disorderly, a major concern in markets given the huge distortions in asset prices caused by a decade of aggressive monetary easing.
Second, while low rates have contributed to a surge in mortgage debt, residential property prices have been on a downward trend since the bursting of Japan’s real estate bubble in 1991 and have only recovered gradually in recent years. Although housing loans have been growing at a rate of 2-3 per cent a year since the BOJ introduced negative rates, average house prices are still 28 per cent below their peak.
In the US, by contrast, home values surpassed their 2007 peak in 2016 and have since risen 65 per cent. The disconnect between buoyant growth in mortgage lending and depressed asset values in Japan partly stems from cultural factors. While housing functions as an asset in Western economies, it is regarded as a disposable consumer good in Japan due to a strong preference for new houses.
Hongkongers join Japan property tours to scout for investment opportunities
Although this has proved a boon for new apartments in Tokyo – prices even exceeded their bubble-era level last year – it has contributed to a high nationwide vacancy rate, which stood at nearly 14 per cent in 2018. With little incentive to keep homes in good condition given stagnant prices, homeowners, particularly financially stretched ones in regional cities and rural areas, would struggle to refinance or sell their properties should mortgage rates rise more sharply than expected.
Structural factors are also at work. Japan’s demographic decline is putting further downward pressure on home values. According to a report published by Jefferies in October, “every 1 per cent increase in population growth is associated with a 5 percentage point increase in house prices. But … a 1 per cent decline in population brings a far greater decline in property prices.”Right now, the main risk is a sharper-than-expected rise in rates. If inflationary pressures prove stronger and more persistent than anticipated, the BOJ’s hand may be forced. Nicholas Smith, a strategist at CLSA in Tokyo, warned that many banks “haven’t experienced a full real-estate cycle”.
Still, given Japan’s huge public debt burden and the painful memories of the crisis in the 1990s, the BOJ is bound to tread carefully. The Japanese “lost decade” made the stock market crash of 1929 “look like a walk in the park”, Smith said.Just as importantly, while Japanese property prices continue to languish, Asia’s second largest economy does not suffer the acute housing affordability problems facing other countries. Japan’s house price-to-income and price-to-rent ratios are among the lowest in a group of 30 developed and developing economies tracked by Bloomberg.
Japan’s absurdly low mortgage rates are storing up trouble. Yet, they are also one of the reasons why houses remain within reach of more first-time buyers than in most other major economies. The legacy of the 1990s collapse is not all bad.
Nicholas Spiro is a partner at Lauressa Advisory
