Real Estate and Land supply
Summary of the Q&A sessions and the PowerPoint presentations of the graphs of Evans book
Q&A Session 1
In this lecture, we will cover the topics of:
- How Efficient is the Property Market?
- The Economic Concept of Efficiency
- Efficient Markets
Market Inefficiency: Causes and Consequences
- Why the Property Market is Imperfect and Inefficient
- Price Determination and the Theory of the Core
Chapter 4 Efficiency: indifference curves and envelope curve
How efficient is the property market?
The property market is an ______ market. This implies that the property market should
determine a schedule of prices for ______.
a) ”explicit” and ”the land and its characteristics”.
b) ”implicit” and ”the land”.
c) ”implicit” and ”the land and its characteristics”.
d) ”explicit” and ”the land”.
à The property market is an implicit market. This implies that the property market should
determine a schedule of prices for land and its characteristics.
Definition of the economic concept of efficiency.
In an efficient market, all the information currently available is reflected in the price. In
particular, the price is determined in and by the market, through the activities of buyers and
sellers, who act on the basis of the information they are in possession.
- Price and quantity are determined in the market, buyers and sellers have no control
over the price.
- Moreover, new information is discounted into the price, as it becomes available.
Challenges to the efficiency of the land and property market:
The land and property market is an implicit market, because, even though land is what is
sold and bought, the actual trade is on its characteristics.
- Consequently, the land and property market has to determine a schedule of prices
for the land and for all its characteristics.
How could the market determine a schedule of prices for the land and for its characteristic?
Definition of Indifference curves:
- Indifference curves are convex curves.
- On each curve, the different combinations of the two products don’t change the
level of satisfaction of the consumer.
- The upper/more to the right curves show greater levels of satisfaction.
,Example 1: Bananas
Assumptions:
• One consumer, two products
• Level of satisfaction of the consumer could be quantified by the amount of product
one consumes.
Features:
• Indifference curves are convex curves (similar to isoquant curve).
• On each curve, the different combinations of the two products don’t change the level
of satisfaction of the consumer.
• The upper/more to the right curves show greater level of satisfaction.
The more you move to the right, the more you are satisfied. When you move from U1 to U2,
your level of satisfaction raises.
More satisfied with 2 bananas than with 1 banana.
Example 2: We want to determine the price of one service in a house - central heating
system.
Question: how could the explicit market determine a schedule of prices for the land and it’s
characteristics?
Assumptions
- The central heating system are available in some different scales à we have
different colors for the cost curve representing different sizes of heating systems.
- The cost of heating will increase with the size of the property.
- Decreasing return of scale.
- The property will be heated using the cheapest system.
,Left: here is no equilibirium because the utility of the buyer can increase and it must be
tangent. Right: the lower one is the equilibrium.
We start with the cost curve of each scale. The cost curve goes upward at an increasing rate.
This is because marginal cost increases as the quantity of service increases. The envelope
curve connects every lowest cost at each quantity. It goes upward at an increasing rate,
following the same characteristic of the individual cost curve. Therefore, the envelope shows
the expected relationship between the cost of the service and the size of the system.
However, this envelope remains implicit on the market. Only when consumer really buys a
product does one dot reveal on the graph. The optimal behavior is represented by
tangencies between the cost envelop and the highest utility (indifference curve). Customer
with different tastes have different groups of indifference curves, therefore all points on the
envelope could be revealed on the market.
Conclusion
In principle, the implicit price schedule for the heating system (the envelop) can be
identified.
, Chapter 5 Market inefficiency: edgeworth box
Market Inefficiency: Causes and Consequences
Each transaction is to some extent independent of other transactions.
The size of the ”core” of the property market is large. This is because ...
a) properties are highly heterogeneous.
b) the supply of land is fixed.
c) the property market is an implicit market.
d) there are few participant in the market.
à The size of the “core” of the property market is large. This is because there are few
participants in the market. Fewer participants cause that the core is larger.
The core is basically the possible outcome that you have from a specific starting point.
The primary reason for the inefficiency of the property market is the heterogeneity of
houses being sold.
- The main motivation for such heterogeneity is that houses are fixed in location.
⋆ Moreover, the price of the characteristics of properties may vary with location.
- Additionally, all properties differ in some way, consisting of different bundles of
characteristics.
- If all properties are different and if the prices of their characteristics may differ from
one to another, the pricing problem can become insoluble.
⋆ Moreover, the same people trade in the property market infrequently and,
consequently, they do not have full information.
- Each transaction is to some extent independent of other transactions.
- How can the property and land market determine property prices?
Two exactly identical houses are different, because they are in a different spot. One might
have a better few, or a tree in front of it or a mountain. The price of the characteristics of
the properties can also differ. Seeview in a city can have a higher price than seeview in the
middle of nowhere. à Each transaction is independent of other transactions. It is with
different people, different houses, different characteristics.
The actual trade of the land is on the characteristics of the land. You can’t compare prices of
land with each other because the characteristics of the land determine the price.
Definitions
- Edgeworth box: Every point in the box
represents a distribution of two goods (X
and Y) between two people (A and B).
- Contract curve: the line drawing through all
the tangency points between the
indifference curves of A and B.
Edgeworth box
Two goods, one on the Y axis and one on the X-axis.
Agent A left under, Agent B right above.
