Urban Economics, Ninth Edition, Chapter 10

Urban Economics, Ninth Edition, Chapter 10

CHAPTER 10 Land Rent and Manufacturing Land McGraw-Hill Education. All rights reserved. Authorized only for instructor use in the classroom. No reproduction or further distribution permitted without the prior written consent of McGraw-Hill Education. Introduction This chapter explores the workings of urban land use and housing, with a focus on answering these questions: What factors determine the price of land? What is meant by spatial organization of the city? What makes land the residual claimant?

How does the price of land reflect its fertility? McGraw-Hill Education. Fertility and the Leftover Principle Competitive bidding among farmers for fertile land drives the lands price up to the level at which the winning bidder makes zero economic profit. This is known as the leftover principle. An increase in the fertility of land decreases production cost, so a farmer is willing to pay more to grow crops on the land. The rent paid by the winning bidder equals total revenue minus non-land cost.

The landowner gets the money left over after the farmer pays for other inputs. McGraw-Hill Education. Land Rent, Market Value, and the Price of Land (1 of 3) Land rent is an annual payment for the right to use a plot of land. The market value of land is the purchase price for land ownership, that is, the amount of money paid to take ownership of the land.

Discuss some examples related to land rent and market value. McGraw-Hill Education. Land Rent, Market Value, and the Price of Land (2 of 3) The market value of a plot of land is determined by the land rent it generates. Land is an asset that yields a stream of income (land rent). The maximum amount an investor is willing to pay for the asset equals the present value of the stream of income.

The present value of an asset is the maximum amount an investor is willing to pay for the rights to the income stream of the asset. McGraw-Hill Education. Land Rent, Market Value, and the Price of Land (3 of 3) The price of land can be defined as the annual payment in exchange for the right to use the land. In this case, the price of land is synonymous with land rent. Most other relevant economic variables are defined as streams

of revenue or costs. The translation from land rent to market value can be made by dividing the annual rent by the market interest rate. Alternatively, if the market value of land is known, the implied price (annual rent) is the market value times the interest rate. McGraw-Hill Education. Willingness to Pay for Agricultural Land The price of land is determined by the profit that can be earned on the land. For agricultural land, profitability is determined by the lands fertility. The model of agricultural rent rests on five key

assumptions. 1. Perfect competition in the output market 2. Common input prices 3. Land to highest bidder

4. Zero transport costs 5. National prices How does land fertility help determine the willingness to pay for agricultural land? McGraw-Hill Education.

Willingness to Pay for Agricultural Land Willingness to Pay for Agricultural Land McGraw-Hill Education. Fertility and Willingness to Pay for Agricultural Land Willingness to Pay for Agricultural Land: Comparative Analysis of Charts

An analysis of the graphs on the previous slide leads to the conclusion that the cost curves in the graph depicting fertility and willingness to pay for agricultural land are higher than the cost curves in the graph depicting willingness to pay for agricultural land. Consider the following questions: What does the shift in the cost curve imply? What is the relation between fertility and cost curve? How does a shift from high fertility to low fertility affect the willingness to pay for land? McGraw-Hill Education.

Competition and the Leftover Principle The leftover principle captures the idea that in a competitive land market, a landowner will be paid the difference between a land users total revenue and the non-land cost. Leftover principle: The equilibrium land rent equals total revenue minus non-land cost. In a competitive environment, competition among prospective farmers bids up the price of land until each farmer earns zero economic profit. Using an example, discuss how competition among prospective farmers bids up the price of land.

McGraw-Hill Education. Leftover Principle Assumptions Assumptions of the leftover principle: Individual plots of land may differ in their fertility, but farmers are identical in the sense that they have access to the same production technology and input prices. There are no restrictions on market entry. McGraw-Hill Education.

Manufacturing: Land Price and Location How much a manufacturer is willing to pay for land at different locations in a city is determined by these factors: In an urban environment, the willingness to pay for a plot of land depends on its accessibility rather than its fertility. In a market economy, land is allocated to the highest bidder, and so the land bids of manufacturers determine where manufacturing firms locate. McGraw-Hill Education. Freight Cost Versus Labor Cost

A simple model of a manufacturing sector can be used to develop the basic concepts of the land bids of manufacturers. The models assumptions about inputs and outputs are: fixed input and output quantities fixed input and output prices central freight terminal intracity freight labor cost. Using the graphs on the following slide, discuss how spatial variation in labor and freight cost generates spatial variation in the manufacturing bid for land. McGraw-Hill Education.

Freight Cost versus Labor Cost: Manufacturing Rent in a Horse Cart City McGraw-Hill Education. Freight Cost Versus Labor Cost Applying the leftover principle, a firms willingness to pay for land at location x equals total revenue minus non-land cost: The bid per unit of land is simply the firms willingness to pay divided by the lot size:

McGraw-Hill Education. Freight Cost Versus Labor Cost Freight cost and labor cost vary with distance x (at a rate f for freight and c for labor), so the slope of the bid curve is The simple model incorporates the transportation technology of the early 20th century. Discuss how the transition from horse cart to intracity truck affected the intracity freight cost.

McGraw-Hill Education. The Intracity Truck: Manufacturing Rent in a Truck City McGraw-Hill Education. Intercity Truck and Highways in a Beltway City: Manufacturing Land Rent in a Beltway City Using the graph: Discuss the implications of

introducing an intercity highway network on the bidding of land. Compare the land bid for the central and highway location. McGraw-Hill Education. Intercity Truck and Highways in a Beltway City: Land Rent Surface in a Beltway City

McGraw-Hill Education. Spatial Distribution of Manufacturing Employment in Denver, Colorado, 2015 Discuss the relevance of highways in developing manufacturing units. McGraw-Hill Education.

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