Breaking the land bank

By Leith van Onselen’s Bernard Hickey wrote an interesting post over the weekend analysing land banking in and around Auckland, which has been “turbo charged” by the city’s urban growth boundary (UGB), called the “Metropolitan Urban Limit” or MUL:

Expectations are a powerful thing.

They’re the reason as many as 45,000 sections in Auckland are just sitting there ready to go, with all the connections to water, power and roads – but no houses.

The expectations of a repeat of the doubling or tripling of land prices in and around Auckland over the last 15 years will do that to expectations…

It means it makes a lot more sense for land bankers to simply hold the land in the expectation of tax-free capital gains and not bother with the messy business of actually building and selling new houses…

The Metropolitan Urban Limit in Auckland acted as the biggest artificial constraint on land supply, helping to first turbo-charge and then gold plate those capital gains…

The only way to change that expectation is to force land prices down by doing whatever it takes to unleash a landslide of development.

Hickey has made some interesting remarks about how planning policy has conspired to incentivise land banking in Auckland. These incentives were also covered in my December 2011 report, Why developers land bank, in particular:

The size of land banks held by developers is likely to be proportional to the perceived risks and uncertainty of gaining land supply and/or planning permission. Under more restrictive land-use regimes, where there are significant delays and uncertainty in gaining planning permission, developers will typically need to hold larger land banks than in regimes where development is less restricted by regulation and the conversion from rural to urban uses is allowed to take place with minimum interference and fuss. This is because restrictive land-use regimes typically increase the length of time and costs involved in moving from the search and acquire stage of the development process to the construction stage.

Where land-use regulations restrict the amount of developable land available – such as through urban growth boundaries, restrictive zoning, or inadequate infrastructure provision – they also encourage developers to land bank not only to ensure their own continuity of supply (production), but also to make it harder for rival developers to find suitable land. In the process, rival developers can be driven out of business, reducing the overall level of competition in the development market. This is a particular problem for smaller firms lacking the capital necessary to buy-up land ahead of time…

Land banking – an especially baneful form of rent seeking at the current time – is more prevalent in situations where land supply is constrained and planning approval processes are slow and uncertain. Land banking is also only profitable where the value of land is rising faster than the cost of capital. And in the absence of physical barriers to land supply, land price increases above the level of inflation are driven primarily by policies and regulations that artificially restrict the supply of land.

It stands to reason, then, that the removal of regulatory constraints on the supply of land, along with more permissive planning policies and infrastructure provision, would increase competition amongst both developers and land owners, thereby driving down the cost of land/housing. The existence of high levels of competition would, in turn, make land banking particularly risky, as another nearby owner would always have the opportunity to move to the market ahead of the land banking firm.

Thankfully, the New Zealand National Government recognises that the Auckland MUL has exacerbated land banking and is taking actions to dilute its effects. Here’s Bernard Hickey with more:

[Housing minister, Nick Smith] talked in particularly direct terms about changing the expectations of land bankers this week.

“If they see land prices continue to appreciate at 15-25% per year, then they will have the incentive to sit on their land and not to develop it, and that’s why a critical part of the Accord is making plain that the Metropolitan Urban Limit is dead,” Smith said.

“The Government and the Council are determined to release sufficient land supply and we’re not going to allow land price inflation of the sort we’ve seen over the last decade,” he said.

“I want the land owning development community to realise that the Government is serious with Council about freeing up land supply, and they cannot bank on ongoing high land price appreciation that has encouraged land banking over the last decade.”

Another supplementary policy to reduce the incidence of land banking, and turbo charge development, would be to implement a broad-based land values tax, which would financially penalise land banking and vagrancy and encouraging the more productive use of sites.

An added benefit of a broad-based land values tax is that it would help make infrastructure investments self-funding for the Auckland Council, since any land value uplift brought about by increased infrastructure investment (e.g. new roads, trains, etc) would be partly captured via increased tax receipts. In turn, the Council would be more likely to facilitate development, rather than act to restrict it in a bid to save on infrastructure costs.

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Unconventional Economist
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  1. It makes me chuckle when I see ‘hope’ that things will change. Only financial pain on a mass scale will achieve any change. To think that similar situations to the below still don’t exists, and will be protected at all costs , is naive of Bernard.
    Ex-Auckalnd councillor says sale of (his) 113ha Flat Bush site out of frustration.”Horrific” Auckland Council rates of nearly $50,000 a year on land still being grazed by livestock prompted the $37.9 million sale of one of the city’s largest land lots.”

    • The lamestream media are among the chief enablers of this racket. Covering that sort of illustrative blatant political corruption in such a sympathetic, smokescreening manner makes me sick.

  2. The right words are certainly coming out of Nick Smith’s mouth. Now we just need some serious follow through.

      • Smith and one or two sensible National politicians have been talking talking, talking for years. 2008 was the time to deal with this. Don Brash would have dealt with it in 2005 – his narrowly missed election was one of the saddest cases of “what might have been” for a nation.

        Even in 2008, the Nats could easily have blamed the unwinding of house prices on Clark-Cullen mismanagement. Now it is “the Nats own” NZ house price bubble, they own it, they even created it in its current magnitude. The smarter Labour people will have a field day one day pinning this on the Nats and the Nats probably know it. Hence the extreme reluctance to actually do truly effective reforms now.

        The Auckland Unitary Plan is a monstrously incompetent creation at all levels and effective political leadership at the national level could run a bus over Len Brown et al, including on the Rail Link proposal. The fact that National has utterly failed to do so, makes them one of a “Dumb and Dumber” combination, and I am not sure which is them and which is the Auckland Council. I am spewing over the Nats utter spinelessness on these plain-as-day issues. A Lange-stature leader could have simply levelled with Kiwis – trusted them to understand the facts – in the first month of taking office.

        Of course kicking the can down the road to the position NZ is now in, was a masterpiece of strategic pandering to Key’s FIRE sector cronies because even the more scrupulous Nats understand the implications of addressing the issue properly NOW as opposed to 2008.

        I actually shudder at the implications of Labour capitalising on this issue unless they reform into genuine pragmatists who will adopt market-driven solutions rather than “State Housing 2.0”

  3. Thanks UE.

    There is a lot of loose thinking around land costs, people confusing self-interest with progress, blind to what kind of civilization we want to be.

    Taxing wages and allowing a free-carry for economic rents is a certain way to drive people mad.

    And we wonder why people aren’t queueing up to buy overpriced dirt.

    Rebase taxation. Set free wage-earners and business. The lives of all would be propelled by gold-plated turbochargers – including landowners.

  4. This land tax campaign is very dangerous because it’s being spruiked as a replacement for stamp duty.

    Make no mistake, if you abolish stamp duty, you will get commensurately higher prices.

    If you want to target land-bankers, levy it on vacant land but keep stamp duty more generally.

    This land tax thing will be supported by right wing politicians, economists and vested interests (wait for the Coalition’s tax white paper……).

    The unthinking will lap it up, hoping that it will address the housing travesty in some way. Others will just be swayed by incomplete reasoning like on this site.

    Dangerous stuff guys. If you want to genuinely contribute to the policy debate, suggest you start emphasises risks and the need to appropriately time any tax reform (e.g. it would be better timed when prices are correcting )

    • Stamp duty is one of the worst taxes going around – both on efficiency and equity grounds. There would be nothing better than for it to be replaced by a broad-based land tax.

      The only one displaying “incomplete reasoning” is you.

      • That’s exactly the sort of off the cuff, first principles, superficial analysis that’s dangerous (and others will regurgitate to their detriment).

        Rather than repeating the theory, step through the effects taking into account the dynamics of the Australian property market (e.g. prices at capacity to pay as opposed to efficient ). You wouldn’t even have to model it to see.

      • The only one displaying “incomplete reasoning” is you

        Coming from a advocate of lower interest rates that is a bit rich ….

    • “..if you abolish stamp duty, you will get commensurately higher prices…” Maybe. But only once! Land Tax is on-going.
      Besides, would you buy a newly de-stamp dutied property, knowing that you and the next buyer ( who will factor that into the purchase price) have an ongoing liability of potentially flexible amount ( think how Council Rates are adjusted ad-hoc)? Maybe you would, but many won’t….(NB: See my post above, re financial pain, where $50k p.a squeezed an owner out of a $37.9 million holding)

      • Agree.

        A once off jump …… but that’s still bad AND will reinforce the dangerous irrational market behaviour that property is a you beaut investment that always goes up.

        And exactly, I wouldn’t buy it enough will.

        Net effect – amplify the cycle, how is that a good thing?

        It’s like saying “first home buyer’s grants will only jack prices as a one time thing”….. therefore they are a good thing.

      • I assume that lenders will take into account the ongoing cost of the land tax when assessing borrowing capacity. Presumably it will be subtracted from money available for repayments, and if there are more than a couple of people who borrow close to their maximum capacity, that should be a bit of a dampener on prices.

      • That’s where ‘the greater fool’ theory plays out. Anyone who buys into a de-stamp dutied etc. property becomes that potential fool. Someone’s going to ‘be it’, and there’s always one last push just before the end of any cycle.
        Maybe a change like this might just do it!

      • “I assume that lenders will take into account the ongoing cost of the land tax when assessing borrowing capacity.”

        Agreed. I don’t think the outcome is as clear as either side is suggesting…doesn’t mean I don’t think it’s a good idea on efficiency grounds though.

      • AB from what I remember you also advocate for rate cuts. Call me a conspiracy theorist but there now seems to be a lot of people in the camp of pretending to care about the bubble, will benefit from continued increases and pushing for double edged solutions, token solutions (macroprudential) and excuses for actions (e.g. rate cuts) that will make the situation worse.

        Others in that camp include Xenophon, The Lorax, HnH ….

      • Janet, that $37.9 million holding would have been a $2 million holding in the absence of a growth boundary. That “rates forced me off my property” narrative is some of the most disgusting smokescreening of a shameless rent-seeking gouge imaginable.

    • Removing stamp duty would also increase allocative efficiency in the property market (e.g. remove disincentive for pensioner to downsize from 5 bedroom house to 2 bedroom flat, increase incentives to use land more productively). More efficient allocation of current supply has the same effect as increasing supply: downwards pressure on prices.

      Levy land tax on all land, to the level that it replaces stamp duty revenues. Future land tax payments will be capitalised into land values, offsetting the price effects of demand increase from eliminated stamp duty.

      Net effect is reduced land prices. I’d be more concerned about a drop in prices that some will argue is expropriation of current land owners’s equity (although in reality it’s just return of capitalised rents that rightfully belong to the community).

      • You (and others) are assuming rational agents (do you really think Aussie RE involves rationality?).

        The other way to look at efficiency is welfare (maximisation).

        High land prices are an input cost that increases the cost of production. They are already reducing efficiency. If you delay the correction(which is what abolishing stamp duty will do), that reduces dynamic efficiency.

      • Interesting point about dynamic efficiency. I always find it difficult to assess these kinds of dynamic efficiency issues; so many variables and moving parts. One for me to think on a bit more. Would you mind going through your reasoning on ‘land tax in place of stamp duty delaying the property market correction’? And have you considered the possibility that the social consequences of a sudden crash in property prices (as opposed to a slow melt) may actually lead to a sub-optimal welfare outcome?

        As for rational agents, I agree it’s always a tenuous assumption. But if one wants to depart from this assumption then one must state define where rationality is bounded. Otherwise analysis is futile; any conclusion could be justified in the presence of undefined irrationality.

      • My reasoning in a nutshell is that the maximum eople can bid for houses depends primarily on the amount of deposit they can stump up…… and prices right now reflect this maximum.

        If you abolished stamp duty you would increase the amount of deposit someone could stump up. Sure you would increase outgoings but this is less of a limiting factor on price. So it continues the upwards cycle longer until people eventually realise “hey I’m paying all this interest and land tax on top of that, the rent isn’t covering it and prices are already so high that gains aren’t covering it”and then crash.

        Then the crash will be from a higher high point and so worse than the counterfactual.

        As for the bounds on rationality. Basically, people don’t consider outgoings. ONLY capital gains. So they ignore land tax and love the fact that it has delivered a (albeit one off) price jump.

      • Melbourneguy, you have a point, but I am not sure that you are arguing it the right way.

        The rationing of land supply is the precondition. If that exists, then every imposition or exaction by government is merely a “share of planning gain/monopoly rent”. Abolition of stamp duties or impact fees will merely allow property and site vendors to hold out for higher net prices.

        Abolition of growth boundaries is essential to end this racket. Is that your point?

        While the land supply is rationed, everything capitalises into economic land rents. Incomes rise, land rents rise. Income tax cuts: land rents rise. Middle class welfare; land rents rise. Upzonings enacted: land rents rise (housing size shrinks and the price remains the same). Interest rates reduced: land rents rise. FHB subsidies: land rents rise. Credit eased: land rents rise. High immigration allowed: land rents rise.

        When land supply is NOT rationed, all of these factors ARE as beneficial as they were historically regarded, in the good old days before the rentiers captured governance.

      • Phil – yes agree with what you said.

        There’d be no efficiency gain if supply stays inelastic (because that would means the original transaction tax wasn’t distortionary in the first place) and all tax reform would is just transfers.

        These things can’t be done in isolation but the vested interests and the pretenders will push for such an outcome just to be seen to be doing something.

    • Land tax immediately reduces the value of land which is why vested interests (interesting people in vests) and those with substantial land assets do not like it.

      They do not want tax on wealth they prefer income and at a pinch consumption to be taxed.

      Also a reason why it is difficult to introduce a LVT.

      Stamp duty or moving tax is a terrible tax.

      Melbourne guy, you need to give better reasons for your position because it sounds like you object to LVT for the typical vested interests reasons.

      A reasonable objection to land tax is that it makes complete withdrawal from society impossible but then you would need to defend the merits of that.

  5. Oh, melbourneguy! (EDIT: @ meboureneguy 1.21pm above)

    The dangers of tax reform!

    Exchanging SD for State Land Tax shifts the tax point from a transaction charge to a holding charge.

    Removing SD will RAISE land prices, but equally imposing SLT on all land would REDUCE prices. The migration sloughs deadweight costs and introduces an automatic stabilizer into land price fluctuations.

    I appreciate you wish to paint this movement for reform as the handiwork of a bunch of amateur idealists gripped by the words of a dead economist, but this reducto ad absurdum just isn’t so.

    This change is one of the reforms urged on government by the Commonwealth Treasury in Australia’s Future Tax System. Read the executive summary.

    The housing travesty you refer to is a land travesty. Building costs haven’t budged for 25 years – all the inflation is in land prices.

    • the adventures of
      a bunch of amateur idealists gripped by the words of a dead economist,

      Sounds like a great TV drama treatment.

    • I think we have the same objectives but disagree on the means.

      Why not leave this one till last (given the risks)? There are many other (no-brainer ) reforms. Abolishing stamp duty isn’t in that category.

      • Abolishing growth boundaries is numbers one, two and three on the list of essential reforms. Is that your point?

      • I’d say rate rise.

        This thinking that rate cuts will always help growth (and vice versa) without question, without thinking about the consequences is just ridiculous.

        What’ll happen? More capital goes to housing instead of productive assets? The owners buy more imported goods? You increase miners profits and the dividends go offshore?

      • melbourneguy, I think low rates wouldn’t be a problem if the conditions were restrictive. 20% deposit, payments at a max of 30% of household income, or even make that 30% of the chief earner, on a 15 year mortgage. We had low rates, and low prices back in the 50s & 60s, but I believe it was much harder to get a loan back then, when banks were more highly regulated and often state owned.

  6. I admire that the Kiwis are at least having a go at this.

    We can’t even have an honest conversation. I just get the impression that the Kiwi political class is a cut above ours.

    • I am incredibly disappointed in the Aussies – I expected a lot better of them. Actually Alan Moran, Bob Day, Patrick Troy, Ray Brindle and a few others were some of the clearest people on the world on these issues more than a decade ago and appeared to have had an effect on key people in the Howard government. Even Chris Joye was clear and wrote some really good stuff at that time.

      It utterly baffles me how this global early lead in common sense was somehow swept away in a tsunami of unreason and madness, flipping Australia into the position of being the likely ultimate champion bubble madness nation, so that Spain and Ireland will look lucky one day. And Australia (and indeed quite a few other countries including Canada and NZ) had the cautionary examples of several other nations going down in a screaming heap ahead of them. Their reaction? Pump the bubble with every trick in the book and admiringly view the outcome as “proof that we ARE different”.