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The Economic Effects of Land Regulation

July 19, 2018
Land-use regulation usually comes in the form of permits or codes, and is intended “to ensure [that] private use of land resources [is] aligned with policy standards.”[1] In other words, it is a way for the government to control how certain privately-owned areas are used. There are clear benefits associated with these permits and codes – for instance, they may help ensure the preservation of a particularly historic area of a town. That said, land regulation also triggers some economic collateral concerns that are often overlooked, such as lost business profits and a widening income gap.

Lost Business Profits

Generally speaking, lost profits are the obvious economic downfall of land-use regulation. When the government decides that an area cannot be built upon, opportunities for new business there are destroyed – and, in terms of the general social welfare, some believe that boosting the economy is far more beneficial than regulating private lands for the sake of historic preservation. One article from The Economist provides a simple summary of this idea: “Most of the urban lots protected by preservation rules…would contribute far more to social welfare if opened to development…”[2] The numerical costs associated with limiting the availability of these areas are supposedly massive – another writer from The Economist suggests that, if America were to lift all land regulation currently prohibiting urban growth, our country’s GDP could rise “by between 6.5% and 13.5%, or by about $1 trillion-2 trillion.”[3]

Moreover, by simply limiting the local supply of land, regulation affects the economy because it inflates current prices. One study on land-use regulations in the West End of London, for example, estimates that building permits and codes raise the cost of existing office spaces by approximately 800%.[4] Likewise, in terms of residential real estate, “the cost of a hectare of residential land in London increased by over 300% in real terms, to more than £8m ($15m)” from 1993 to 2008, and “[p]oor land-use regulation is the main reason for London’s crazy prices.”[5] The findings are similar in some of the most popular American cities, too – while home-building may be “a highly competitive industry with almost no natural barriers to entry,” the price of a home in Manhattan is usually more than double the amount of its construction costs.[6] There are “more than 130,000 establishments nationwide and more than 1,000 establishments in multifamily construction in New York State alone,” and “[f]ree competition among these suppliers should ensure that prices are pushed down to marginal cost, so the presence of a large gap…between market value and the cost of supply must reflect the impact of government regulation.”

A Widening Income Gap

Image: Graph of U.S. Income-Gap Trend. Source: Wikimedia CommonsImage: Graph of U.S. Income-Gap Trend. Source: Wikimedia Commons

One arguably less salient economic (and social) downfall associated with land-use regulation is income inequality. While this issue is normally attributed to larger economic forces such as globalization or diminished manufacturing in America, some researchers are now looking at a more everyday factor: “the price of the average single-family home for sale.”[7]

As noted above, regulation raises the price of certain lands. As one might expect, this naturally keeps poorer citizens out of these areas. While, historically, people have migrated toward wealthier, more productive areas in search of higher incomes, evidence now suggests that people are forced to “stay put,” mainly because they cannot afford the cost of housing in what are now highly-regulated, overly-expensive cities.[8] It is these highly-regulated areas, such as Manhattan, which tend to offer the best chances of wealth and productivity.

Therefore, land regulation results in a “misallocation of consumers, and having them live in less productive, less attractive places.” These findings suggest that cities like Manhattan are actually underpopulated: regulation supposedly keeps highly-desirable areas from a more socially-optimal situation in which more people are making more money.[9] Conclusively, land-use regulation keeps lower-income people from achieving higher salaries – as a result, the national income gap continues to widen.

Having focused on the negative economic effects of land-use regulation, it is necessary to clarify that land permits and codes are not fundamentally evil. As mentioned, they may in fact be necessary in order to preserve history. For instance, as an avid lover of American history who is quite attached to the city of Philadelphia, I would be appalled to learn that Old City was being demolished in an effort to boost the economy. As one founder of a New York architecture firm has noted, “Most of those regulations aren’t just crazy. They’re there to maintain a sense of identity that people care about.”[10]

Consequently, I realize that a balance needs to be struck between excessive land regulation and efforts to reach an ideal economy. However, given that regulation is now being linked to such serious economic and social issues such as America’s widening income gap, I would argue that the country is currently leaning too far on that scale toward excessive regulation. As an abstract goal, policy-makers may want to consider lightening the burden of land-use regulation – perhaps by replacing them with more local or private controls – especially in America’s most popular cities, which tend to offer more economic opportunity.[11]

Student Blog Disclaimer
  • The views expressed on the Student Blog are the author’s opinions and don’t necessarily represent the Penn Wharton Public Policy Initiative’s strategies, recommendations, or opinions.

References

  [1] http://www.businessdictionary.com/definition/land-use-regulation.html

  [2] https://www.economist.com/free-exchange/2010/08/31/the-cost-of-sentimentality

  [3]https://www.economist.com/leaders/2015/04/04/space-and-the-city

  [4]http://eprints.lse.ac.uk/4372/1/Office_space_supply_restrictions_%28LSERO_version%29.pdf, pp. 15-19

  [5] https://www.economist.com/britain/2016/04/30/the-grip-tightens

  [6]http://www.nber.org/papers/w10124.pdf, pp. 1-4, 8-19

  [7]https://www.wsj.com/articles/as-land-use-rule-rise-economic-mobility-slows-research-says-1476813771

  [8]https://scholar.harvard.edu/files/shoag/files/why_has_regional_income_convergence_in_the_us_declined_01.pdf, pp. 13-14, 39-40

  [9]http://www.nber.org/papers/w10124.pdf, pp. 7, 29-37

  [10]https://www.wsj.com/articles/as-land-use-rule-rise-economic-mobility-slows-research-says-1476813771

  [11]https://urbanland.uli.org/industry-sectors/city-almost-no-limits/

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