Tame Real Estate Bubble With LVT

Frank deJong

[ GroundSwell, November-December 2007]

Many of us are watching the slow mo housing bubble burst mainly in the US subprime market, but now "leaking" into other countries, into charge cards, investments and businesses. These real estate bubbles occur about every 18 years according to past observation and are the direct result of speculation in land.

Wealth is generated when labour and capital are applied to resources. The resulting wealth quickly accrues to land, making land attractive to speculators in search of unearned income (capital gains) and in the process inflating the value of land and keeping land out of its best use.

The remedy is for government to collect most of the economic rent (capital gains) from land (and resources) on a yearly basis and reduce other taxes by this same amount. This would make land (housing) more affordable, improve urban design (reduce sprawl), increase economic equity (reduce poverty), conserve resources (and pollution), and unburden the wealth-generating parts of the economy (jobs, businesses).

Below is an excerpt from an excellent booklet on these issues, "Unlocking the Riches of Oz", by Australian Bryan Kavanaugh whom I met last summer:

"Boom-bust cycles are more correctly described as bubble-burst cycles. One can eliminate the burst if one can eliminate the bubble, and one can eliminate the bubble if one can obviate its cause. Prices become decoupled from earnings in a bubble and are supported only by the assumption that someone else, the 'greater fool', will pay an even higher price at a later stage. When that assumption loses credibility, that is, when the market runs out of greater fools, there is no support for today's prices and the bubble bursts.

Bubbles cannot occur in the market for buildings, because buyers understand that the price of a building is limited by its production cost, and this tends to decline with wear and tear; there is no expectation of capital gains, nor of finding a 'greater fool'. But bubbles can and do occur in the market for land, because land, being a gift of nature, does not have a production cost. A 'property' bubble is a land bubble.

But if a more substantial part, say at least half, of the rental value of land were taken as public revenue, any land owner who failed to generate income from the land would make recurrent cash losses, and would therefore feel pressured to use the land more productively -- or to sell it to someone who will. Thus it would become unattractive to hold land for capital gains alone. Buyers would shift their emphasis from capital gains to earnings, and much of the speculative motive that inflates land bubbles would be removed. If the amount to be captured by government were calculated on the basis of the capitalized value of a site, then rising prices would cause holding costs to rise, which would repel buyers and reduce prices, while falling prices would cause holding costs to fall, tending to attract buyers and raise prices. Thus, land price growth would stabilize around the long-term trend: competition among buyers, whose spending power is influenced by economic growth, would cause land prices to grow, but no faster then the maximum sustainable rate.

The public capture of half the rental value of land would release both land and money for more productive projects by discouraging the holding of land for speculative purposes. It would also permit reduction of taxes that feed into prices, and therefore reduce inflationary tendencies, allowing more accommodating monetary policy, reducing the internal rate of return needed for a viable investment, and therefore increasing the available range of investments. The need to find productive uses for land, or else sell it, would increase the supply of commercial and residential accommodation, strengthening the bargaining position of renters and buyers relative to sellers -- thereby making accommodation more affordable."