Wednesday, February 13, 2013

Why British prosperity is hobbled by a rigged land market

The British have the least living space per head, the most expensive office rents and the most congested infrastructure of any EU-15 country. Thanks to a rapidly growing population –  the result of a healthy birth-rate and immigration – these trends are worsening steadily. At the same time, the British economy is languishing in a prolonged slump brought on by a collapse of demand. The answer is obvious: Britain needs to build more. Unfortunately, the obstacles to development are formidable. Britain’s supply-side problems are of a different character to those holding back other struggling European economies, but arguably no less serious.

Britain is generally considered a flexible, economically liberal economy, in which insiders have few opportunities to rig the system for their own benefit. To the extent that supply-side problems are considered a significant obstacle to economic growth, attention generally centres on the country’s patchy skills base. A high drop-out rate from secondary school and weak vocational training are no doubt real constraints on the UK economy, but there is an equally, if not more, serious one. Housing, commercial property and infrastructure are central to a country’s economic and social well-being. The UK’s essentially rigged market for land and its restrictive planning system are as big an obstacle to economic growth as restrictive labour markets and protected professions are in Southern Europe.

The number of new homes built each year in Britain has lagged far behind demand from a growing population for 30 years. Despite faster population growth, house construction is currently running at half the level of the 1960s. At the same time the average size of homes built in Britain is now the smallest in the EU. The result of these two trends has been a steady fall in the amount of living space per head. Property prices relative to average household incomes have come down a bit since 2007, but remain very high. Moreover, the problem is not just restricted to the residential sector: Britain has the highest office rents in the EU. Firms in cities such as Manchester pay more than in Frankfurt or Milan. And transport infrastructure is very expensive to build in Britain, which is one reason why there is too little of it.

Britain is small and densely-populated, but does not suffer from particularly acute land scarcity. Around 13 per cent of the UK is built on, a lower proportion than in countries with a similar population density such as Germany, Belgium or the Netherlands. Britain’s problem is that the supply of new housing and commercial space is uniquely unresponsive to increases in property prices. Alone among the countries that experienced a house price boom in the run up to the financial crisis, Britain had no construction boom. The number of houses being built picked up only slightly, despite UK house prices rising by more than in any other developed countries except Ireland.

This situation has far-reaching economic and social consequences for the UK. Massive house price inflation has aggravated the UK’s already high levels of inequality by shifting wealth from the young (and property-less) to the old (and propertied). The poor availability of affordable housing undermines labour mobility – people are unable to move to where jobs are available because they cannot afford accommodation. Those on welfare are discouraged from working (as they then lose access to subsidised housing).  Congested, expensive infrastructure combined with pricey commercial property pushes up the cost of business, depresses investment and holds back economic growth.

The two reasons for Britain’s land-use woes – a complex planning system and insufficient land for development – are inter-related. A major constraint on the supply of land is the existence of a protected ‘greenbelt’: land around cities on which development is very tightly controlled. There are also strict controls over building on other so-called green-field sites. The market for land is essentially rigged in favour of landowners, who pay no tax on their land holdings and hence pay no penalty for sitting on it, waiting for the artificially-created scarcity to push prices up further. With no revenue from land taxes, local authorities are unable to capture any increase in the value of land that takes place when planning permission is granted. As a result, they have little incentive to open up land for development. 

The UK should, of course, redevelop so-called ‘brownfield’ sites – vacant or derelict buildings and land. But this will only ever comprise part of the solution to its land use crisis. By its very nature, brownfield land is concentrated in parts of the country where people do not want to live. And it is often very expensive to redevelop, not least because the government has stipulated that 60 per cent of new homes must be built on brownfield sites. There is no alternative to building on the green-belt, much of which is neither beautiful nor green. The greenbelt was originally established to combat urban sprawl, but is now an obstacle to sensible development. For example, allowing London to expand by between two and three miles in each direction would easily solve the city’s land-use problems. Increasing that proportion of the UK’s surface area under development by between 1 and 2 percentage points would address the country’s  land constraints  and would not involve concreting over England’s ‘green and pleasant land’. Urban sprawl could easily be prevented by good quality town planning.

The sanctity of the greenbelt, and green-field land more generally, has much to do with vested interests perpetuating a system which rewards speculation. Many Britons have profited from land scarcity (and the tax-free property price gains it has led to), and are determined to defend those gains. They may complain about their children being unable to buy a house, but at the same time will staunchly oppose new development. For their part, landowners are a powerful and politically well-connected lobby; many of the biggest sit in the House of Lords (the country’s upper house). They have a big stake in inflated land prices and are well-placed to resist the taxation of land.

A land tax would involve property owners paying a percentage of the value of their land in tax each year. If the value of their property rose, so would the amount of tax paid on it. This would achieve a number of things. First, local authorities would have a financial incentive to change land from agricultural to residential (and commercial) use as they would profit from the increased value of the land this would cause. Second, it would make it more expensive to speculate on future rises in land values, and some of those gains would be captured by the government. Third, construction companies would not be able to sit on large amounts of land (so-called land banks), and drip feed the market, maintaining prices at artificially high levels. Instead, land would have to be developed or sold, which together with the increased availability resulting from the freeing up of greenbelt land, would bring down the price of developing land and with it the cost of housing, commercial property and infrastructure. Lower land costs would also increase competition by reducing barriers to entry to the construction sector: for example, at present housing building is dominated by a small number of big players.

Supply-side measures are rarely a quick solution to a demand-side crisis. That is certainly the challenge facing other struggling European economies. Spain and France suffer from inflexible labour markets, Germany from over-regulated product and services markets, Italy from both. Academic research shows that addressing such problems improves economic performance in the longer term, but it provides no immediate boost to demand. However, the UK is almost certainly an exception. Addressing Britain’s biggest supply-side problem (its rigged market for land) could provide a more immediate economic stimulus by releasing massive pent-up demand, as well as lift growth potential.

Britain should turn its weaknesses into strengths. Other struggling European countries have a surfeit of housing and infrastructure and poor demographics. For example, boosting construction in Spain would do no good – Spain has far too many unsold houses and it is now suffering from net emigration (more people are leaving the country than arriving). In Italy and Germany, populations are stagnant, although there is more scope to boost spending on infrastructure than in Spain. France’s population is growing, but as a result of persistently strong public investment, it already has very good physical infrastructure. And thanks to a rational planning system and plenty of land, it does not suffer from a housing shortage. Unlike Britain, these countries have few low-hanging fruit.

Far-reaching reform of the greenbelt and the introduction of land taxes could open the way for a boom in housing and commercial development. Local authorities and the national government could agree to set aside a proportion of the funds raised through land taxes to fund investment in infrastructure. Moreover, land taxes would make the tax system fairer by taxing unearned income. And by redistributing money from the wealthy (who save a high proportion of their income) to construction sector workers (who save little of it), it would provide a further boost to economic activity. The current Conservative-Liberal government has pushed through modest reforms of the planning system, but has shied away from opening up the greenbelt and has no intention of introducing a land tax. 

An economy in which speculation is rewarded and wealth is increasingly concentrated in the hands of those with property risks stagnation. It faces an uphill battle to hold on to its young or attract skilled immigrants. Britain needs to strike a better balance between the interests of existing property-owners and the rest of the country. This includes acknowledging that the value of land is determined by the activities of society as a whole and not the landowner, and hence needs to be taxed accordingly.

Simon Tilford is chief economist at the Centre for European Reform.


pierre said...

what about higher density within urban areas? Building on greenbelt land would increase urban sprawl and in the case of London, in an urban area that is already much larger than other metropolitan areas. This leads to lots of issues from public transport (the tube having to cover much larger distances than e.g. the subway in NYC)to commuting to the structure and vitality of urban high streets.
British cities are unusual in that they consist mostly of 2-storey buildings and there is resistance to building up rather than out. Would increased density in the existing urban area not be a better solution to housing supply than building on ever increasing, badly connected greenbelt areas?

KiwiBrendon said...

The reforms could include the right to build up as well as out. Planning permission prevents upward building too.

Zaasrd Censitor said...

A society where speculation is rewarded is a monopliconomy. An economist as the author is will always attempt to work within the confines of the system. Even when it is broke, broken, failed, failing, corrupt, corrupting.

Something else is required as the words of the author has been used for a century at the margins to call for justice.

Creative accounting will always be enshrined in economic wisdom, so as to deliver tax increase to those being dispossessed from access to land. We don't make land, it cannot be moved or hidden, so why in 21C are we still paying for it. Land free from price by an annual rental value assessment on the site in your possession. This system reinforces the law of property in title rather than in the location as a responsibility and duty to the community who honour and respect the law knowing that the market unfettered is ensuring that the land is being put to its best use.

To illustrate the ongoing failure of government to not understand that it's primary function is to land as that is the territory to which it administers by constitutional oversight. Australia has 50,000 abandoned mines.

If public revenue from the site was the original mechanism to defray the cost of government rather than the taxation of the enterprise then not one of these sites would be idle today.

DavidECooper said...

Interesting and well cogent article, but the author does not provide evidence to justify the assertion that LVT needs to be combined with deregulation of the green belt. LVT by itself would motivate land bank owners to put large amounts of brownfield city centre sites into use, making the development of greenfield sites less pressing. The amounts of undeveloped inner city sites are remarkable (provided you venture outside the South East)- take a look at the centre of Birmingham, where there are empty lots used for car parking within a stone's throw of the centre.

Mark Wadsworth said...

Excellent article.

But as David Cooper explains, with LVT in place, there would be less "green field" development anyway as high-tax urban sites would be developed first.

Further, it's not so much that we have too little housing, it's more that it's badly allocated.

LVT would encourage single widows in family homes to swap places with young couples in one-bedroom flats. So with LVT in place, there would be less pressing need for more physical housing anyway.

Anonymous said...

Perhaps an important point to make about the UK planning system is the level of public engagement and consultation which is involved in decision-making. This is in many ways a benefit. However, it does slow up the delivery of goods which may benefit the nation at large, for example the provision of new housing, but which are seen as objectionable by people in a particular locality. This is degree of public involvement is, rightly or wrongly, not always present in other countries. It is important to lay bear some of the choices which lie behind the notion of 'a complex planning system.'

Natalie said...

Very good article, a good example of real estate speculation is Spain, during the years of real estate bubble built on protected land skipping laws, municipalities turned rustic lands in urban lands thus obtaining good benefits. After the collapse of the housing bubble we find thousands of unsold homes.