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Hong Kong SAR property bubble (1991-1998)

Hong Kong SAR property bubble is a type of economic bubble that affects the Hong Kong SAR real estate sector. Hong Kong SAR property sector plays an important role in maintaining its economy sustainability as it may influence the banking sector and stock market sector. Partly due to cultural aspects, property sector also widely used as a gauge for the purpose of investment, saving and consumption by the households and corporate in Hong Kong SAR .

Hong Kong SAR property prices have been reputed as one of the most volatile in the world, due to highly susceptible to speculation, largely blamed on the mainlanders. In 1990, Hong Kong SAR property sector experienced a brief slowdown as doubts over reunification with the People’s Republic of China arise after the Tiananmen Square incident coupled with the Gulf Crisis. By 1991, the real estate prices jumped almost 40%, but fell by approximately 16.2% in 1995 – due to US interest rates increase resulting higher mortgage loan interest rates in Hong Kong SAR . The price trend reversed in two subsequent years as the housing prices jumped 18.9% and 20% in 1996 and 1997,respectively . The property bubble burst in 1998, as the property prices slid by 50% . The property prices crisis coincide with the 1997 Asian Financial Crisis. At one point, analysis has estimated the property prices within Hong Kong SAR were overvalued by 40-45% of its “fundamental” levels in order to remain sustainable .

Background

Prior to 1990, Hong Kong SAR property sector has been bogged down by higher interest rate as well as net loss in population over uncertainties of transfer of sovereignty back to People’s Republic of China in 1997 . Negative real interest rates by the early 1990s, however, saw a reversed in trend as property prices began to rise. The rising trend, however, interrupted in 1995 by a jump in mortgage interest rate in Hong Kong SAR due to higher interest rate in US (Note: Hong Kong Dollar maintained linked exchange rate with the US Dollar, thus any changes in the US monetary policy would affect Hong Kong SAR monetary policy).

By 1996, improved labour market conditions as well as steady increase in household income boasted the demand for property in Hong Kong SAR . At the same time, Hong Kong SAR banks reduced lending rates as well as loosening lending conditions meant that household has access to cheaper credit than prior years. As a result, Hong Kong SAR property experienced rapid increase in prices, in which appeared to be property bubble. To curb speculation, Hong Kong SAR government introduced curbing measurements in March 1997 but did not have any major impact on property prices into mid-1997 .

By the third quarter of 1997, the impact of 1997 Asian financial crisis hit the property prices in Hong Kong SAR due to a widespread of panic as well as lesser confidence among its investors. Hong Kong Dollar experienced repeated speculative attacks which threatened its peg against US Dollar. To defend the currency peg, Hong Kong Monetary Authority had to increase the interest rate – which directly jolted the stability of Hong Kong SAR property sector. Property prices reportedly dived 40-50%, while rental down by 20% . Declining in affordability, higher interest rate, weaker consumer confidence and tightening in bank lending resulted in negative market outlook.

Property market returned to stable only by 1999, after the government of Hong Kong SAR introduced series of rescue package to return the confidence into the market .

Timeline

1990: Property in Hong Kong SAR on average has gone up substantially compared to 1989. Hong Kong SAR private domestic housing for all classes has up by almost 11.4% compared to 1989. Private domestic housing for class A, B & C (equivalent to area below 100m²) has gone up by 11.3% compared to 1989. On the other hand, private domestic housing for class D & E (equivalent to area below 100m²) rose 4.5% compared to 1989. Areas within Hong Kong island are generally higher than Kowloon City and New Territories. By 1990, a typical housing with an area of 100m² within Hong Kong district on average worth HK$2.05million (U$263,000), while similar housing may worth HK$1.81million (U$232,050) in Kowloon district and HK$1.55million (U$198,718). By comparison, similar housing on average worth HK$1.10 million (U$141,025) in Hong Kong SAR district, HK$0.94 million (U$120,510) in Kowloon and HK$0.78million (U$100,000) back in 1985.

1991-1994: Property in Hong Kong SAR continued to rise over the period as the housing price continued to soar. By 1994, private domestic housing for class A, B & C (equivalent to area below 100m²) has accelerated by 85.3% compared to 1991. On the other hand, private domestic housing for class D & E (equivalent to area below 100m²) rose 157.9% compared to 1991 – reflecting changes in housing demand in Hong Kong SAR. Housing in Hong Kong island remained as the most expansive housing in Hong Kong SAR as in 1994. By 1994, a typical housing in Hong Kong island with an area of 100m² on average may cost around HK$7.46million (U$956,410). For comparison purposes, similar housing in 1991 may worth HK$2.71million (U$347,435). Other areas in Hong Kong SAR were not spared either. In Kowloon, to own a housing with an area of 100m², potential buyer on average have to coughed up to HK$4.73million (U$606,410) in 1994, compared to a price tag of HK$2.21million (U$283,333) in 1991. For an identical property in New Kowloon, one may expected to hefty tag of HK$6.18million (U$792,308) in 1994, up approximately 136% compared to 1991. On the other hand, housing in New Territories experienced similar housing bubble effect as the housing price on average has gone up 156% I 1994, compared to 1991. Estimated average price for housing in New Territories (with an area of 100m²) may cost about HK$5.38million (U$689,743) in 1994.

1995: Adjustment to the mortgage interest rate began to take effect as the housing prices began to slow down. By 1995, private domestic housing for class A, B & C (equivalent to area below 100m²) has declined by 6.4% compared to 1994. On the other hand, private domestic housing for class D & E (equivalent to area below 100m²) went down 10.7% compared to 1994. Housing in Hong Kong island (area of 100m²) worth around HK$6.74million (U$864,102), while Kowloon may worth at about HK$4.73million (U$606,410). Other areas like New Kowloon may worth HK$5.69million (U$729,487) while in New Territories estimated worth HK$4.79million (U$614,102) in 1995.

1996-mid 1997: This period refers to the “golden years” in Hong Kong SAR property sector, marking the peak of the housing prices bubble in Hong Kong SAR. Within a short span of 2 years, Hong Kong SAR housing has reached to an alarming, unsustainable scenario. Based on the Housing Price Index, housing for category A, B and C has gone up 51.3% in 1997 compared to 1995. On the other hand, Housing Price Index for category D and E has shot up by 63.3% in 1997 compared to 1995. At the peak of the housing bubble crisis, housing in Hong Kong SAR island (area of 100m²), on average, worth around HK$11.5million (U$1,475,410), while Kowloon may worth at about HK$7.98million (U$1,023,077). Other areas like New Kowloon may worth HK$8.47million (U$1,085,897) while in New Territories estimated worth HK$7.95million (U$1,019,500) in 1995.

Mid-1997: Hong Kong SAR property prices began to decline as the effect of 1997 Asian Financial Crisis bites in. Hang Seng Index wiped out 50% of its value in August 1997 – resulted a wide mass panic over Hong Kong SAR economy. Housing in Category A, B and C began to enter correction although the impact, at this moment, remained minimal on housing in Category D and E. Anti-speculation by Hong Kong SAR government as well as hike in interest rate by October 1997 sent the Hong Kong SAR housing prices to tumble.

1998: Hang Seng Index dropped down further to as low as 7,909.1 on January 12, 1998. Hong Kong SAR property prices crashed by the first quarter of 1998 and the crisis aftermath brought down the Hong Kong SAR property back to the 1993 level. For instance, housing prices Hong Kong island with an area of 100m² worth around HK$6.5million, comparable to the price tag set in 1993. Housing prices in other districts such as New Kowloon and New Territories was estimated to worth about HK$5.1million and HK$4.5million, respectively which was substantially lower than 1993 level. Kowloon with a price tag of HK$5.6million for 100 ^m housing, was the lowest level since 1994. The whole housing prices crisis lasted up to 2004.

Hong Kong SAR real estate sector

Hong Kong SAR real estate industry has been an important sector to its economy, but yet drew criticisms due to the structure of the whole real estate industry. It fact, the entire real estate sector has been dominated by a small number of firms which has stronger influence on the direction of property prices in Hong Kong SAR. At one point, the Consumer Council has pinpointed the nature of existence of oligopolistic behaviour among the property developers has driven up the property prices. Hong Kong SAR real estate sector are effectively dominated by a few firms due to barriers to entry, given that the cost of acquiring of land and resources needed is higher, as well as higher financial costs and restrictions on tendering procedures to holders of land in certain districts in Hong Kong SAR (especially in New Territories).

Yet, on the other hand, there are arguments that high property prices may not be directly influenced by oligopolistic behaviour, but rather due to scarcity of land as land sale are strictly controlled by the Hong Kong SAR government .

Hong Kong SAR housing largely can be categorized into two different classes: public housing and private housing.

Hong Kong SAR public housing

Main article: Public housing in Hong Kong

Hong Kong SAR public housing began in 1954, with the aim to address the severe housing crisis in the island after the World War II. The earlier housing policy has been focussing on mass production to tackle the housing demand (due to mass migration from the mainland) though later the policy began to focus more on its quality. Nevertheless, from as high as 75% of population lives in public rental housing has now dwindled down to around 35% . The public housing in Hong Kong SAR has been longed criticized for long waiting periods has pushed up the private rental housing, while low public rental combined with higher affluence enable as many as 13% of tenants (as in 1995) to own a private property in Hong Kong SAR . Public housing has continuously provide higher supply to the market compared to the private sector as in the peak of bubble crisis, public housing stock has exceeding 2 million units to fulfil demands in the market .

Hong Kong SAR private housing

Hong Kong SAR private housing, on the other hand, has been severely limited supply due to restrictive land policy in Hong Kong SAR. To effectively utilize the land, many land acquired on the basis of redevelopment of old sites has been transformed into high-rise apartment buildings to increase the density of development. From the sales to completion (does not include the period from planning to acquiring new land for development) usually takes 2-3 years to complete, which means supply of private housing would be unable to match the demand. As the Hong Kong SAR government hardly intervened in private housing market, many developers usually opt to release the units in batches to speculators (or-end users). Speculators would then mark up the prices before unloading it to potential buyers. Thus, over the cycle, the prices fluctuation amplified due to the nature of speculation .

Identification

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The figure provides a rough estimation of actual property price changes from the trend vales against its estimated fundamentals. As a guideline, to determine whether the property prices were “overvalued” or “undervalued”, in this case, it is assumed that the obsolete value needs to be compared to the levels which determined by the “fundamentals” . In any case, anything beyond 10% at the peak was considered excessive upswing, while 5% at the trough was considered a swing . In this case, the property prices in Hong Kong SAR were clearly overvalued throughout the crisis – thus suggesting excessive speculations which undermine the sustainability of the housing prices in Hong Kong SAR. The bubble collapsed towards the end of the crisis “dragged” down the whole market prices closer to its fundamental.

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On the assumption that in 1990 that Hong Kong SAR property price was equilibrium against its fundamental, thus, the figure above may provide some indication on whether there is any “overvaluation” or “undervaluation” in the property market prices. Considering by the time of peak of the crisis in second quarter of 1997, the property market has been estimated 40-45% above the values which was suggested as “fundamentals” . Thus, this evidently proves the existence of property bubble in Hong Kong SAR at that period of short span.

Relationship between Hang Seng Index and Hong Kong SAR Property Price

Hang Seng Index rise or fall has close relationship to the current property prices movement. It fact, Hang Seng Index rose sharply throughout the 1990s prior to the 1997 Asian Financial Crisis, buoyant sentiment among investors. By 1994, the stock market rose substantially before halted by interest rate hike, which witnessed the market weakened from as high as 12,201 in January 1994 to as low as 6,968 in January 1995 . Similarly, property price in Hong Kong SAR slumped cumulatively by almost 30%, which lasted for several months as the effect of the interest rate hike taken place. After the minor correction in stock and property prices, the stock market rebound sharply as the property prices resumed the upward trend.

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Second quarter of 1997, however, spelt out the worst for Hong Kong SAR economy as Asian Financial turmoil taken place. Stock prices tumbled over 50% from its peak in August 1997 and reached a 3-year low of 7,909 on 12 January before gradually regaining its pace in the subsequent months. In the property market, coupled with the announcement of the government's policy in October 1997 to increase the supply of housing units, the interest rate hike resulting from Asian financial turmoil sent property prices down by 20% to 30% in the last few months . The property price crash in Hong Kong SAR affected the overall investors’ sentiment as well as weaker domestic consumer demand in the subsequent years.

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Causes

Supply and demand factor

In Hong Kong SAR as well as in many part of the mainland of China, housing serves for two purposes – both commodity and investment asset. Homeowner typically expects housing return in the form of sum of implicit value of rental and investment returns (appreciation of capital value). It is widely acceptable views in Hong Kong SAR that property will goes up over the time, thus provides a good hedge against inflation. Prior to 1997 Asian Financial Crisis, Hong Kong SAR has relatively strong income growth coupled with low unemployment rate, thus boasted the demand upside for property in Hong Kong SAR. At the same time, interest rate for mortgage has been relatively low in the 1990s compared to the 1980s (Refer to diagram below).

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As Hong Kong SAR is a city of economy, demographic developments also added pressure on the existing housing in Hong Kong SAR. Immigrations from the neighbouring mainland in the 1980-1981, following the changes in policy to open-up to the outside world- has resulted in growth of population in Hong Kong SAR. However, the trends reversed in later 1980s, due to higher emigration – but subsequently population growth returned to a higher level during most of the 1990s as confidence on Hong Kong SAR’s future built up which lasted till 1997.

On the supply side, housing tends to adjust slower to demand as new completions are relatively small and is pre-determined by the ongoing volume of construction. Constraints on constructing of new housing in Hong Kong SAR often causes a long lag time due to consideration in environmental, infrastructural and social aspect. In many cases, it may takes up to 3 years just to take the project to progress from planning to marketing – which drives up the cost of housing even before construction started.

Domestic liquidity

Hong Kong SAR has relatively high domestic liquidity thanks to high degree of globalisation and international capital flows. In fact, liquidity expansion beyond its fundamental real economy may play a key role in asset pricing. Historically, the highest liquidity expansion into Hong Kong SAR was just a few years before Hong Kong SAR reverted back to People's Republic of China supported by strong optimism of US interest rate. Liquidity injection expansion was the highest between 1995 and September 1997 – sent asset prices to the higher level during this period. Later, Asian Financial turmoil resulted deceleration in liquidity growth which sent the free liquidity from as high as 20% in September 1997 to as low as 5% in January 1998.

Similarly asset prices weakened the most during this period.

Government policy

Prior to June 30, 1997, all incremental land supply is subject to government policy as given under the clauses in Sino-British Joint Declaration, which limited annual releases to 50 hectares. Lands are usually supplied by granting leases through public auction, tender and private treaty grant. Majority lands are leased to the highest bidder in public auction with lease terms of 50 years (common) or 75 years (uncommon). This practice lasted till the transfer of sovereignty on July 1, 1997, from the British Crown back to the People’s Republic of China. HKSAR government then began with first five-year land disposal in July 1997 but suspended effectively from June 1998 onwards.

To tackle land supply issue, developers in Hong Kong SAR rarely construct buildings immediately after acquiring the land. Rather, developers would acquire more lands first to build up “land banks” before developing the sites. Bidding in land auctions are widely acknowledged as the gauge by market analysts to determined the developers’ confidence in the future outlook for the property market. Land bidding quite often went far higher than the “fundamentals, fair value” which may actually increases the cost of housing in Hong Kong SAR.

Speculative activity

Adding stress to the housing prices in Hong Kong SAR centred on speculation activity in Hong Kong SAR. Excessive swing in Hong Kong SAR property may be due to demand formed by price expectations based on past values of price, rather than supported by market fundamentals (e.g. economy, income and interest rate). Speculation may also based on expected economic conditions (typically based on equity) and would enter the market when deemed low and disposed when is believed to be appropriately high. In fact, due to long-sustain increase of property price throughout the bubble period provides firm expectations that housing price will continue on the long run.

Cooling measurements (1991-October 1997)

To maintain the stability of financial sectors, Hong Kong Monetary Authority (HKMA) has stepped in to address the property prices bubble in Hong Kong SAR. HKMA has voiced out its concern over imprudent banking lending to property sector throughout the bubble crisis. Prior to the bubble crisis, Hong Kong SAR has experienced financial sector crisis in the 1980s due to property prices collapsed in 1981. 7 banks, including the third largest bank in Hong Kong SAR, crumpled following the crisis. From 1991 to 1996, HKMA has pushed forward a number of prudential recommendations to address the issue:

Period	Remarks
November 1991	Endorsed a 70% ceiling for the loan-to-value ratios adopted by banks
February 1994	Introduced a 40% benchmark for property lending by financial institutions Proposed a benchmark growth of property lending fixed at 15% per annum, on par with growth of nominal GDP.
September 1995	Clarified policy on property lending Re-istated the guidelines of 40% limit on property exposure and the 70% loan-to-value ratio
December 1997	Reduced the maximum loan-to-value ratio for more expansive proerties (with a value of over HK$12 million) to the higher of 60% of value or Hk$8.4 million

The Hong Kong SAR government also increases the supply of land to decelerate the surge in property prices. In March 1994, March 1997 and July 1997, the government launched detailed measures to improve the flexibility of land use, land supply and to curb speculation in properties.

On 8 October 1997, the Chief Executive of Hong Kong laid out three main targets in his maiden Policy Speech. The three targets include: to build at least 85,000 flats a year in the public (55,000) and private (30,000) sectors, compared with 51,000 flats in 1996 (19,800 from private development and 31,200 from the public sector); to raise home ownership rate from 50% to 70% in ten years; and to reduce the average waiting time for public rental housing from seven to three years.

This is to specifically addressed land supply and predictability to ensure land supply will be sustained. This involves the announcement in advance of a well defined, rolling five year land disposal programme against a longer ten year planning horizon. The HKSAR government, at that time, plans to offer 378 hectares of land for auction in the coming five years, compared with 145 hectares in the last five years. These plans, however, failed to fully materialize following the Asian Financial Crisis that hits Hong Kong SAR in October 1997.

1997 Asian Financial Crisis

Main article: 1997 Asian Financial Crisis

Crisis Measurements (beyond October 1997)

• Housing and land policy

In order to stabilize the Hong Kong SAR property prices attributable to the Asian Financial turmoil, Hong Kong SAR government has introduced several measurements to return the confidence among investors. Some changes in policy are summarized as below:

Period	Remarks
October 1997	Housing Policy Plan aimed at increasing home ownership. Key measures include increasing land supply, increased supply of subsidized housing, non-interest loans through the Home Starter Loan Scheme (HSLS), and shortening of waiting time for public rental housing.
May 1998	Relaxation of anti-speculative administrative measures of the sale and presale of apartments. Suspension of land sales for nine months.
June 1998	Further relaxation of anti-speculative measures by removing restrictions on deposits and payments on the purchase of apartments.
September 1998	Partial resumption of land sale, introduction of the application list system.
April 1999	Resumption of land sale, introduction of the application list system.
June 2000	Reduction of supply of subsidized apartments; increase in subsidized loans.
February 2001	Tightening of eligibility requirements for subsidized apartments; further relaxation of anti-speculative measures
September 2001	Nine-month moratorium on Home Ownership Scheme (HOS)/Private Sector Participation Scheme (PSPS) sales replaced by additional home-ownership loans; administrative freeze on allocation of new sites for HOS/PSPS development
November 2002	Moratorium on land sales after 2003; phaseout of HOS after the end of 2003; land sales conducted through the application ist starting 2004
January 2003	Replacement of Home Purchase Loan Scheme (HPLS) and HSLS with Home Assistance Loan Scheme (HALS): tightening of maximum income eligibility for those not living in public rental housing; lowering of maximum loan amount

• Monetary policy

Before the crisis, maintaining linked exchange rate system has been seen as the fundamental in maintaining Hong Kong’s economy. However, as Hong Kong Dollar undergo intensive speculative pressure highlighted it vulnerability highlighted its weaknesses.

Dollarization was considered at one point, in the favour of US Dollar and abandon Hong Kong Dollar has been quite controversial during its proposal, partly due to opposition from the People’s Republic of China (in favour of using renminbi in Hong Kong]]. Secondly, from the legal term aspect, issues such as setting up US Dollar payments and clearing system, arrangement for US Dollar notes and external liquidity support as well as amendments to Hong Kong Basic Law, to be addressed. In fact, dollarization may also hurt the confidence of investors since such move would be perceived as a collapsed in the monetary system. The plan was then abandoned in favour of retaining the local currency.

In maintaining the stability of Hong Kong Dollar, Payment versus Payment Settlement (PvP) and Hong Kong Exchange and Clearing Company has been set-up to have US Dollar security system for securities. Only Singapore within Asia has such system in place though services are rather limited. From monetary angle, setting up such policy would have reduced transaction between Hong Kong Dollar and US Dollar as well as minimizing pressures on Hong Kong Dollar as it’s no longer available for non-domestic transactions.

Aftermath

Property sector is relatively sensitive to the movement of interest rate, as a hike in interest rate may seriously impacted demand for property. Unlike Peoples' Republic of China opted for monetary easing to boast its economy, Hong Kong SAR went on to tighten its monetary policy in October 1997 in order to defend the Hong Kong Dollar. The rationale behind raising borrowing costs for Hong Kong Dollar denomination largely to deter speculators to sell. At one point, interbank interest rate wet up as high as 300% on 23 October 1997, but yet did not fully curb speculation. Prime lending rate in Hong Kong SAR touched as high as 10.25% at one point, affected the stock market as well as property market badly. The aggregate demand fell, thus sending Hong Kong SARs’ economy into recession. Peoples' Republic of China, by comparison, avoided the recession even though the GDP growth slid to 7.8% in 1997, the lowest since 1994.

The property price crash implicated Hong Kong SAR GDP sunk to -5.1% in 1998, unemployment rate shot-up as high as 5%, and deflation began in the final quarter of 1998. While the economy rebounded in 1999 backed by share market recovery as well as higher export, unemployment rate continued to rise and deflation lasted till second quarter of 2004.