Unpriced Regulatory Risk and the Competition of Rules: Unconsidered Implications of Land Use Planning

Abstract

This paper argues that over the past 40 years land use regulation has created much of the financial value and, therefore, returns, in real estate in many countries, although most clearly in the UK. The evidence for this claim is best documented in the context of residential property but the circumstantial evidence that, in the UK at least, land use planning has similarly inflated commercial real estate values is powerful. Moreover, because of the wider economic impacts this regulation is increasingly having, there is a significant possibility of future deregulation. This would have a substantial impact on both capital values and rents of all classes of real estate but most especially residential and retail. This constitutes a significant risk for real estate as an asset class and, moreover, it is a risk of which real estate professionals appear unaware and is, therefore, unpriced.

Keywords:

• Unpriced risk
• regulation
• land use regulation

Notes

1. Although the Dutch have been moving towards a more restrictive stance over recent years, historically their system was strongly regulatory but non‐restrictive and space costs were low relative to incomes. Needham (1992) explained this in terms of the historic obligation on local authorities, as responsible for drainage, to supply land. As a consequence planning in Holland had developed with a strong function of facilitating the supply of land for all uses – including development – but at the same time the system was firmly regulatory.

2. A feature of the UK system the South Koreans when they were shopping around for a land use planning system after the Korean War adopted in a literal minded way despite the idea falling out of favour in the UK. This is one of the reasons why the South Korean system may challenge for the title of the world’s most restrictive. The Korean Land Corporation (www.iklc.com) acts as a monopsonist buyer and monopoly seller of land for development purposes as well as a state planning agency. De facto by restricting development land supply it increases surpluses and net revenue for government. For an analysis of the impacts, see Son and Kim, 1998.

3. For housing supply, Barker (2003) reports a figure of less than 10%.

4. Particular parcels of farmland or agricultural land in particular locations or with specific properties are, of course, not perfectly elastic in supply.

5. That consumers of space should pay the full economic and social costs of doing so is not in question. Lower density development may impose higher environmental costs although the evidence is not at all clear on that. However, in as far as it does, this would justify taxing space consumption.

6. Since economic theory tells one that the price of housing land will vary systematically with distance from employment centres, it is not possible to estimate the price of garden space without also including the exact location of the house with respect to the centre(s) of employment. This also means that in any urban area there is not one price of land but a price function with respect to distance/location. To make life more difficult for the researcher it appears that there is a highly non‐linear relationship between garden size and price per square metre and this price interacts with the size of the house itself. It is consequently far more demanding to estimate the price of garden space in terms of both data requirements and estimation techniques. The form of this non‐linearity varies over time and between markets apparently reflecting the elasticity of supply of large gardens. In the Reading market in 1999, (see Cheshire and Sheppard, 2004b) only gardens in the top ten percent of the size distribution commanded a real premium but that premium was very substantial. However, planning restrictions on residential land supply had eliminated most large gardens so houses with large gardens were in extremely inelastic supply and, indeed, part of the demand for them may have been their potential as building land.

7. If we accept that capitalisation of property taxes and other similar charges, including conditions of leases, occurs (as seems increasingly plausible given findings of, for example, Ihlanfeldt and Shaughnessy, 2004; or Mehdi, 2004) then total occupation costs provides the most appropriate measure of ‘price’ or ‘rent’ for present purposes.

8. With the dominance of London population is less evenly distributed in the UK than in Germany so one could argue that we should only compare London with similar sized cities such as Paris rather than Frankfurt. However, the answer is the same and manufacturing is far more important in Frankfurt so perhaps one would expect stronger demand for industrial land there.

9. The particular cheapness of Shanghai perhaps tells us something about the undervaluation of China’s currency, the Renminbi.

10. Not a real example, but based on one.

11. Disney et al. (2003) estimate the marginal propensity to consume out of an increase in house prices of between 0.09 and 0.14 with a higher value for increases than for decreases.