This is fascinating. Land sales as a way of aligning everyone's growth incentives! Amazing that a Communist state achieved such a beautifully capitalist way to make local governments care about economic growth.
This puts a whole new light on America's homestead acts and railroad land grants in the 1800s. It seems like nearly the same thing, dressed up in an older fashion of financial instruments.
I learned from Yuen Yuen Ang's _How China Escaped the Poverty Trap_ how much local Chinese governments profited from local growth, but this post makes me realize what made the incentives so mechanical and reliable.
When your entire government budget depends on land sales, and land sales depend on growth prospects, of course the local government will move mountains to create prospects for growth. It's got no choice!
But how ironic that this incentive system has now become the toxic bubble threatening China's future growth. Was there any way they could have saved themselves from this?
Michael Pettis writes how stagnant decades are almost inevitable after miracle generations. Maybe no growth miracle goes unpunished.
>>> But how ironic that this incentive system has now become the toxic bubble threatening China's future growth. Was there any way they could have saved themselves from this?
Presumably property taxes accomplish a similar form of incentive alignment (increased growth drives increased property prices just as with sales, and the government taxes a cut of that increased valuation) but in a sustainable way instead of relying on the clearly-finite supply of land available to a local government.
The classic Georgist solution is property tax on the value of unimproved land. There's a nice result where the value of local amenities are capitalized into the value of unimproved land in a municipality (insofar as the benefits flow to people & businesses residing on municipal land), so a local government that charged close to a 100% land value tax would have close to perfectly aligned incentives to maximize the economic value of local amenities.
I’ve recently become a bit more skeptical of Georgism than I used to be because I’m not sure that the value of land can actually be assessed independently of improvements. That is: the maximum rents extractable from land are a function of its as-improved character. If a land’s highest capacity for generating revenue is with a hotel built on it, then you price that into the income stream when setting an LVT (or in setting purchase price above zero in conditions of less than 100% LVT) - and failure to maximally exploit that simply leaves the landowner in the red. [1] In turn, technological or regulatory changes that make hotels cheaper to build (or make it easier to build more floors / rooms) should increase the *unimproved* value of land (hence why YIMBYs are always arguing, likely often correctly, that upzoning should increase land values). But if the potential for improvement / the as-improved character of land is capitalized into its price, then can you really say that you’re not taxing improvements? How would that even work conceptually?
The only way I can think of where this has meaning is if some builder/developer/purchaser has alpha such that the land is worth more *to them* than the prevailing market price (e.g., they have some secret sauce for building hotels bigger or more cheaply), but AIUI the real estate market doesn’t really work that way — construction bids aren’t based developer A having better cranes or labor relations than developer B and most of the work is done by comparatively commoditized general- and sub-contract labor. So even that hypothetical of a relatively small amount of improvement-specific value not being capitalized into price seems like a reach.
TL;DR: I’m not sure I buy that unimproved land value doesn’t intrinsically capitalize improvements under Georgism, since it certainly seems to do so under not-Georgism. To hold otherwise would seem to imply that unimproved land had static value notwithstanding improvements in building technology, which I’m not sure is a tenable position.
[1] (another reason I’m conceptually skeptical of it - I think systems often work better with at least a little room for slack in them. Otherwise you get overzealous in shooting for local rather than global optima.)
I think your intuition is right--the value of "unimproved" land in a particular area reflects the value of the improvements in the surrounding lots, as well as the level of technology in society. I think Georgists see this as an advantage though, rather than a disadvantage.
My sense is that the Georgist goal is to not tax someone on the improvements that they make to *their own* land. Say that the most profitable use of a particular parcel of real estate was to build a high-rise office building, and that the land rent would be worth $100/square foot/year (i.e., someone would be willing to sign a contract offering to pay $100/square foot/year in perpetuity in order to build a hotel on the land). If the land could instead only be used to build a church, it would be worth $50/square foot/year.
Under a traditional property tax scheme, someone building an office building on that parcel will pay a lot more tax than someone building a church, because the office building itself will be worth more than the church building and they'll be taxed on all of it. Under a Georgist scheme, they would both be charged $100/square foot/year. As a result, someone would only buy the land for the church if they felt that the land was worth at least $100/square foot/year to them.
What I think you're saying (correct me if I'm wrong!) is that if someone builds another office building next door, and doing so increases the value of that land for office space, that will push up the rent for both the church-owner and the office-owner, even if it only increases the value of the land when used for office buildings.
What this should mean is that all the uses of land that occur in a Georgist city would have a value, from the perspective of the owner, at or above the market value. This means that doing stuff with land that doesn't produce a lot of revenue would me more expensive than under a traditional property tax regime--this might be really bad for getting land use that has value that's difficult to capture (for instance, making a park, preserving a historic building, etc.) It should also mean, though, that people can reap close to the full benefit of making their land more productive, because even if doing so pushes up their neighbors' property taxes, it won't push up theirs very much.
To me, the big issue with a close to 100% unimproved land value tax is that it perfectly incentivizes the local government to increase the value of land, but completely eliminates the incentive of anyone else to do so. It makes no sense in a Georgist regime to partner with your neighbors to beautify your street, build a park, etc., because making the land you own more valuable just increases your taxes. I think this is a good reason to aim for something like a 50% land value tax rather than a 100% land value tax. However, I'm pretty convinced of the Georgist argument that property taxes should aim for unimproved land value rather than total sale value of a property (though with a lot of probably important practical caveats--do you give someone a discount if the stuff on their land has negative value, like an abandoned warehouse?)
Thanks for the response - I agree with most of this but it’s not *quite* what I was getting at.
>>>What I think you're saying (correct me if I'm wrong!) is that if someone builds another office building next door, and doing so increases the value of that land for office space, that will push up the rent for both the church-owner and the office-owner, even if it only increases the value of the land when used for office buildings.<<<
While I agree that Georgism does have the corollary that it’s always individually rational to fight anything that creates positive externalities because they increase your tax bill, thaf’s actually a separate issue: my primary point was that the putative $100 / year market rent implicitly reflects the use of the parcel *when used for an office building* — and likewise, improvements in building technology would presumably make the land more valuable to the owner even considering that parcel in isolation and a static surrounding environment.
What this suggests to me is that the amount of land value allocable to improvements is basically going to max out at whatever the prevailing risk-adjusted rate of return is, but everything else up to that point can get thrown into the “unimproved land value” bucket — in other words, you would always want to own the land as long as you could generate any kind of positive return on capital (generally one that is also market clearing so that it justifies the opportunity cost of investment) , but because the return on capital is just [rents extractable from improvements - cost of capital], you can just keep increasing “cost of capital” (eg by increasing LVT assessment) up to the point at which the development of the property fails to delover a market-clearing RoR and the developer buys stocks or whatever and does something else with their money.
Put another way: the number that determines the hypothetical rent someone would pay (eg $100/sqft) is just whatever number allows the land in its maximally-improved state to return a market-clearing RoR. And the fact that that number is based on the land’s value *as improved* runs counter to the idea that Georgism is capable of taxing land wothout taxing improvements — instead, I would expect all of the total value (less that required to generate market-clearing RoR) to be characterized as part of the unimproved land value — and both any improvements you do make and the any you are *able to make* get eaten up by LVT. In turn, (and getting back to your original point above), knowing that the capacity to genrate rents will immediately be capitalized into unimproved land value reduces the incentive to ever improve land, except as a last resort when everyone else has done so, and makes *researching* improvements appear to have returns to basically no one.
This all matters a *lot* because one major pitch for Georgism is that it maximally incentivizes improvements because 100% of their value is kept by the improver - but actually if 100% of their value less only prevailing market RoR is capitalized into land, then, eg, assuming a market-clearing RoR of 7%, 93% of the value of improvements is actually de facto subject to tax! We’re back to taxing both land and improvements, just at a near-100% rate!
The separability of unimproved from improved value is sich a big deal that Lars Doucet’s Georgism
Primer has an entirre section labeled “Can Unimproved Land Value be Accurately Assessed Separately From Buildings?” In brief, I posit that it seems like it can’t — in fact, LVT is going to implicitly encompass the value of buildings even before they have been built!
Got it. Very interesting point and very clearly stated. I want to try to re-state first before responding just to make sure that we're on the same page!
My understanding of your point is basically that the value of "unimproved land" is really the value of the ability to improve the land in whatever way is optimal given our current technology, tastes, etc. Maybe slightly more precisely, it's something like "the amount of rent that the second-most willing buyer would pay to access the land." What that implies is that if the most-willing buyer and the second-most-willing buyer are basically identical (same construction technology, same appraisal of the value of the parcel, etc.), a perfectly-applied tax would make a land buyer indifferent between buying and improving land and instead putting their capital toward some other purpose. That's fair as far as it goes, and is basically the same thing that a seller tries to do when they set a purchase price in a non-Georgist world, but is maybe a reason to aim for a 90% land value tax to make sure you don't overshoot and discourage development (just like a landlord might set rent a little below what they think they can get to avoid vacancies).
You're arguing though that there's a further issue, because if I come up with a way to make improved land more valuable than it was before (say, a new way of building skyscrapers that is cheaper), my innovation increases the value of *unimproved* land as well as the land on which I actually build my skyscraper. This is true because, assuming I can't keep my technique secret, all land can now use my improved skyscraper technique.
This problem is also not totally unique to a Georgist world--if my competitors will learn about my invention and be able to implement it, the benefits to me will probably dissipate from competition, and the purchase price of any new parcels of land on which I'd like to build my skyscrapers will go up. But at the very least in a non-Georgist world I would benefit from the fact that my innovation raises the rental value of my own property, even if I don't get the benefits from making my neighbors' property more valuable as well. In a Georgist world, raising the rental value of my own property only benefits the government.
This is an interesting point that I hadn't considered before. I agree with you that an LVT would reduce the incentive to create innovations in the use of land that can be copied by competitors, and that this is a problem because the incentive for that sort of innovation is already too small in a competitive marketplace.
One potential partial solution to this would be to set assessment periods far apart, perhaps with the option to ask for an early assessment. If you think of an LVT as trying to get to a similar outcome as the government owning all the land and auctioning it out to people, you could think of a wide assessment period (say, updating the tax every 10 years or every 20 years) as being analogous to auctioning off a 10-year or 20-year rental contract instead of a 1-year contract. The option of an early assessment would let a property owner get assessed before making a major improvement in order to lock in a tax rate for the full assessment period.
I mean the point of land value taxes is incredibly straightforward. taxing land does not reduce the amount of land. it does not have dead weight loss. whereas taxes on productivity have dead weight loss. land value taxes are obviously the right approach. any arguments about how accurately land values can be assessed independently of the value of the built structures is drastically missing the point. ordinary taxes are 100% dead weight lossy.... the entirety of the tax is a tax on productivity. Even if you are 10 to 20% off the mark on your assessment of land values, you're still doing radically better than any productivity tax. and such taxes are incredibly hard to evade.
I think this is too glib: the reason Georgism goes hard on not taxing improvements is that improvements are the land version of producitivity. If you make it unprofitable (or only marginally profitable) to build a hotel on the land, the hotel doesn’t get built. Of, as I hypothesize above, we expect the value of improvements to he capitalized into an LVT except for some market-clearing RoR, you’ve reduced the incentive for such improvements to the bare minimum. Not necessarily *below* the bare minimum, but it’s an absolute garbage place to look for alpha.
it doesn't matter if it's that accurate, the primary goal is to ensure that the amount of the tax can't be impacted by anything the owner does, which is what causes it to have zero dead weight loss.
taxes on productivity are essentially 100% dead weight loss. so even if you're only roughly in the ballpark on the correct land value tax amount, you're just doing quarters of magnitude better than a productivity tax. land value taxes thus obviously the right solution.
I don't understand what is brilliant about it. what would be brilliant is to get out of the way and let the market work. move to efficient taxes on negative externalities and land and other forms of rent. provide a UBI instead of gift certificates on excludable goods and services.
That ratio of housing to stock and bond investments is horrifying.
In addition to your many points, much of China's development is car-dependent, due to single-use zoning and a lack of alternative ways to get around (because of all the large arterials and freeways to manage the massive traffic.) Auto-oriented development is expensive and wasteful; even in the US it's a strain, and it's going to be a massive burden going forward for a much less wealthy (per capita) China.
Hi Curt, could you say more about the zoning effects? As far as alternative ways to get around, I have to disagree: subway and bus networks in China's cities are generally much better developed than in the US, which combined with dockless share-bikes to solve the last mile problem, make public transit often as quick as driving to get from point A to point B.
I agree with Dan. Even tier 3 cities have a good combination of frequent cheap buses and lots of bike lanes for traditional bikes and e-bikes. Tier 1 cities have amazing subway systems.
It is conventional wisdom on Wall Street that Chinese stocks are for trading, not investing.
Circa 2008 there was enthusiasm about Chinese stocks due to their being easily investable via liquid ETF, the country's robust growth, and the all-time high prices observed in 2007.
Nearly two decades later, all that enthusiasm is gone. China's economic model, with it's reliance on SOEs and heavy-handed political control of firms generally, is simply incompatible with the aims of equities investors.
Shepherding retail into stocks would be a disaster in China. They will demand that the CCP ensure that the stock market never goes down, which will destroy that market entirely.
What do you mean by Chinese stocks are for trading? I'm based in HK so I have access to stocks on the HKEx and I might be able to get access to the ones on the three bourses in China (Shanghai, Star, ChiNext) but I haven't learnt much about options/trading although I would like to try just to learn for a year and with small amounts.
Do hedge funds actively try to short Chinese stocks when there are major developments because they anticipate Chinese retail investors or institutional investors with a China allocation will be slow on the uptake? Basically, it's a casino?
I'm not sure I understand your question about short sells. Hedge funds are pursuing all sorts of strategies in China, but not much long-term buy and hold style investing. Shorting stocks in China is generally much more difficult than for Western markets. It's difficult to locate shares to borrow from the brokers that operate in China, and the authorities come in and ban short-selling specific stocks, or the whole market, whenever they feel like it.
It seems as though moving to real estate taxation as a source of revenue will be difficult and perhaps result in a cycle of devaluation. Increased property taxes will result in decreased values of properties. The government will then have to increase tax rates to maintain revenue, which will cause further pricing pressure (who wants to hold an investment asset that has an unknown/increasing future cost?). How will they find an equilibrium until real estate is valued for its utility rather than as an (speculative) investment?
A lot of Americans who bought real estate before the crash already lived through this type of reckoning. We bought our first house in 2005, lived in it for 12 years, and sold it in 2017 for a 36% loss. This was the result of speculative buying in our area in 2005, and of course those famous loans with weird terms where you didn't have to repay all the interest for a while.
36% loss isn’t anywhere near as big as what’s happening if real estate prices have to fall from 18 times local income to a more normal 3-5 times local income.
In the CCP period, Chinese people have favored hard assets over intangible ones. They had little access to foreign markets and domestic markets were (and are) poorly regulated by international standards.
Property, precious metals and highly valuable assets such as jewelry and art were seen as more stable, more liquid and less likely to garner government attention. Where possible, many have sought to acquire property overseas or at least in Hong Kong, which is why HK has had the most expensive real estate in the world for much of the past 25 years.
As this post well explains, today’s credit fueled construction of new housing in China is not justified by housing needs while the viability of housing as an investment is greatly weakened. As was noted, the central government has some resources to moderate these impacts but application of these resources in specific situations may not be sufficient to avoid social disruption. It is not for nothing that the CCP is now increasing its surveillance and social control mechanisms.
This is occurring at the same time that China’s population is starting to decline and it’s advantage in labor costs is fastly eroding in favor of Southeast Asian and South Asian economies, among others. The central government may be able to catch this falling knife but it may be a bloody mess before the Chinese economy adapts to the ongoing squeeze.
Isn't it time for China to abolish the hukou system, at least for all cities except the big four?
Restricting rural-to-urban migration never made a lot of sense but with a massive oversupply of urban housing and a declining national population, it makes even less sense now.
I'm not an expert, but I believe that the CCP does not do this because they fear masses of rural Chinese flocking to the cities without being able to find employment. That would be socially destabilizing, which terrifies the CCP. The Hukou system keeps them on the farms, where productivity is quite low, but there's plenty of work to go around. The cities are already having a hard time employing their residents and a mass influx of relatively unskilled labor would exacerbate matters, at least in the short-term.
The masses have been flocking to the cities for decades already even without a hukou, and from a Govt social stability/services perspective, restricting migration via hukou restrictions made a ton of sense to them.
China’s National Development and Reform Commission (NDRC) proposed hukou reform a couple times in the past few years (‘22, ‘21, and ‘20), and required cities with less than 3 million in population (which aren’t super attractive to migrants anyway) to liberalize their hukou policy. There are more than 600 cities of this type in China. Top tier cities use a points system based on income, education, etc to determine which migrants can get a hukou - which acts as a filter of sorts.
Zhengzhou (~11 mill) is one of the largest cities to relax hukou restrictions, largely to support their struggling, oversupplied housing market & attract talented higher earners to fill that housing.
A few years back Shanghai announced that graduates of the city’s universities could acquire a Shanghai hukou, one of the most sought after in the country. Zhejiang province has also done something similar for recent graduates.
A person’s hukou is also linked to social benefits they can receive, and affects healthcare, pensions, receiving bank loans (for property etc), and which public schools their children are allowed to attend - so there are a ton of threads linked to the effects of hukou reform. Activists like Xu Zhiyong made a name pushing for hukou reform, so the Chinese Govt is sensitive to this issue in regards to social stability & activism.
It appears to me that most centrally directed hukou reforms have largely been diluted by local governments in the provinces. The reforms from Beijing so far are piecemeal changes rather than radical reforms, and local governments have few incentives to offer the full package of social benefits to the poor migrants - they prefer attracting talent/higher earners/potential homebuyers to offset the slumping property market.
I’m most curious to see what China will do re: property tax, and what the pushback will be.
Yes. I do wonder about China’s measures to get out of their financial crisis. These measures might mean inflating the debt, finding an industry to support fuller employment, or even export the debt. China is allowing countries to conduct trade with China in their own currencies. I wonder if this last allows for a swap of currency for Chinese debt? If not, it would be an interesting mechanism to explore.
“Regular households for whom property represents their retirement account will be pretty angry if they’re suddenly left unable to sell or forced to take a big loss.”
Real estate with 20% of GDP tanking, and 20% of youth (18-29) unemployed. Not good. China, like Iran, has a high percentage of youth living with Mom & Dad, which is not a good formula for new household formation and having children. What a drag on long-term demographics. And when the young unemployed graduates (10 million annually) can’t afford to pay rent, they will be forced to move back home to live with Mom & Dad, who likely invested a lot in their children’s education. Xi’s response: “Eat bitterness and move into rural areas.” I’m guessing this does not go down well with the educated unemployed and their parents. You can push people only so far before they push back. I don’t think building sandboxes in the South China Sea and “Jousting with Tom & Charlie” (ala Tom Wolfe) in the skies above are more important than domestic tranquility.
That is true, though ultimately that approach runs out of steam (which is why Korea offers only temporary support for exporters, giving them the chance to succeed or fail).
One thing that you didn't touch on; how has the real estate crash affected the financial sector in China? Because to me that's still the ultimate shoe to drop. In 2008, the real estate crash is what created the recession, but it was rotten structure of the financial system (shoddy underwriting practices, Credit default swaps given out like candy by AIG; the rea secret fulcrum around which the entire real estate economy apparently depended upon), that made the recession into the "Great" recession.
I know this answer is complicated because very often in China the lender is the government or that the lender is beholden to the government. But that only makes me believe that the underwriting practices that undergirded this explosive property growth must have made 2007 underwriting practices in the U.S. look like paragons of good risk management. So far it's only been Evergrande, but there has to be a number of other financial firms in China that are on the brink right now. And given the terrible incentive structure that was created via the lack of property taxes (having your local revenues entirely dependent on land sales just seems an absolute recipe for useless property construction), I have to believe we are likely going to see a pretty bad financial crisis coming soon.
By implication, I'm guessing you think the U.S. government could have prevented the financial crisis in 2008. Perhaps if Treasury had stepped in and actually rescued Lehman Brothers.
As an aside, I always found it really telling that for all the hand wringing about what the government could or couldn't do in regard to taking over banks, Treasury stepped in immediately and took over AIG. It's part of the reason why made that quip in my first post. And it really does seem like if AIG had collapsed without the government stepping in, the Great Recession may have been the Great Depression redux.
I have always found these kind of presumed counterfactuals deeply unconvincing.
I don't think that not bailing out financial institutions would have lead to a depression. People act like a bankruptcy means the whole bank just goes away. It doesn't. The functional parts of the business are quickly scooped up by still-solvent pools of capital. Look at what recently happened to Credit Suisse. A too-big-to-fail bank in Switzerland fails, and guess what? It was acquired by UBS and the Swiss aren't in a depression.
I think the American Left wants to believe that the bailouts were necessary (even though they deeply oppose them) because it gives a rationale for destroying Wall Street generally, a favorite past time. The right just likes free money for rich people, also a favorite past time.
A little bit. Those are sort of the extreme fringe of the problem of overbuilding. But most of the ghost cities eventually got occupied to some extent.
This is fascinating. Land sales as a way of aligning everyone's growth incentives! Amazing that a Communist state achieved such a beautifully capitalist way to make local governments care about economic growth.
This puts a whole new light on America's homestead acts and railroad land grants in the 1800s. It seems like nearly the same thing, dressed up in an older fashion of financial instruments.
I learned from Yuen Yuen Ang's _How China Escaped the Poverty Trap_ how much local Chinese governments profited from local growth, but this post makes me realize what made the incentives so mechanical and reliable.
When your entire government budget depends on land sales, and land sales depend on growth prospects, of course the local government will move mountains to create prospects for growth. It's got no choice!
But how ironic that this incentive system has now become the toxic bubble threatening China's future growth. Was there any way they could have saved themselves from this?
Michael Pettis writes how stagnant decades are almost inevitable after miracle generations. Maybe no growth miracle goes unpunished.
>>> But how ironic that this incentive system has now become the toxic bubble threatening China's future growth. Was there any way they could have saved themselves from this?
Presumably property taxes accomplish a similar form of incentive alignment (increased growth drives increased property prices just as with sales, and the government taxes a cut of that increased valuation) but in a sustainable way instead of relying on the clearly-finite supply of land available to a local government.
The classic Georgist solution is property tax on the value of unimproved land. There's a nice result where the value of local amenities are capitalized into the value of unimproved land in a municipality (insofar as the benefits flow to people & businesses residing on municipal land), so a local government that charged close to a 100% land value tax would have close to perfectly aligned incentives to maximize the economic value of local amenities.
I’ve recently become a bit more skeptical of Georgism than I used to be because I’m not sure that the value of land can actually be assessed independently of improvements. That is: the maximum rents extractable from land are a function of its as-improved character. If a land’s highest capacity for generating revenue is with a hotel built on it, then you price that into the income stream when setting an LVT (or in setting purchase price above zero in conditions of less than 100% LVT) - and failure to maximally exploit that simply leaves the landowner in the red. [1] In turn, technological or regulatory changes that make hotels cheaper to build (or make it easier to build more floors / rooms) should increase the *unimproved* value of land (hence why YIMBYs are always arguing, likely often correctly, that upzoning should increase land values). But if the potential for improvement / the as-improved character of land is capitalized into its price, then can you really say that you’re not taxing improvements? How would that even work conceptually?
The only way I can think of where this has meaning is if some builder/developer/purchaser has alpha such that the land is worth more *to them* than the prevailing market price (e.g., they have some secret sauce for building hotels bigger or more cheaply), but AIUI the real estate market doesn’t really work that way — construction bids aren’t based developer A having better cranes or labor relations than developer B and most of the work is done by comparatively commoditized general- and sub-contract labor. So even that hypothetical of a relatively small amount of improvement-specific value not being capitalized into price seems like a reach.
TL;DR: I’m not sure I buy that unimproved land value doesn’t intrinsically capitalize improvements under Georgism, since it certainly seems to do so under not-Georgism. To hold otherwise would seem to imply that unimproved land had static value notwithstanding improvements in building technology, which I’m not sure is a tenable position.
[1] (another reason I’m conceptually skeptical of it - I think systems often work better with at least a little room for slack in them. Otherwise you get overzealous in shooting for local rather than global optima.)
Great comment!
I think your intuition is right--the value of "unimproved" land in a particular area reflects the value of the improvements in the surrounding lots, as well as the level of technology in society. I think Georgists see this as an advantage though, rather than a disadvantage.
My sense is that the Georgist goal is to not tax someone on the improvements that they make to *their own* land. Say that the most profitable use of a particular parcel of real estate was to build a high-rise office building, and that the land rent would be worth $100/square foot/year (i.e., someone would be willing to sign a contract offering to pay $100/square foot/year in perpetuity in order to build a hotel on the land). If the land could instead only be used to build a church, it would be worth $50/square foot/year.
Under a traditional property tax scheme, someone building an office building on that parcel will pay a lot more tax than someone building a church, because the office building itself will be worth more than the church building and they'll be taxed on all of it. Under a Georgist scheme, they would both be charged $100/square foot/year. As a result, someone would only buy the land for the church if they felt that the land was worth at least $100/square foot/year to them.
What I think you're saying (correct me if I'm wrong!) is that if someone builds another office building next door, and doing so increases the value of that land for office space, that will push up the rent for both the church-owner and the office-owner, even if it only increases the value of the land when used for office buildings.
What this should mean is that all the uses of land that occur in a Georgist city would have a value, from the perspective of the owner, at or above the market value. This means that doing stuff with land that doesn't produce a lot of revenue would me more expensive than under a traditional property tax regime--this might be really bad for getting land use that has value that's difficult to capture (for instance, making a park, preserving a historic building, etc.) It should also mean, though, that people can reap close to the full benefit of making their land more productive, because even if doing so pushes up their neighbors' property taxes, it won't push up theirs very much.
To me, the big issue with a close to 100% unimproved land value tax is that it perfectly incentivizes the local government to increase the value of land, but completely eliminates the incentive of anyone else to do so. It makes no sense in a Georgist regime to partner with your neighbors to beautify your street, build a park, etc., because making the land you own more valuable just increases your taxes. I think this is a good reason to aim for something like a 50% land value tax rather than a 100% land value tax. However, I'm pretty convinced of the Georgist argument that property taxes should aim for unimproved land value rather than total sale value of a property (though with a lot of probably important practical caveats--do you give someone a discount if the stuff on their land has negative value, like an abandoned warehouse?)
Thanks for the response - I agree with most of this but it’s not *quite* what I was getting at.
>>>What I think you're saying (correct me if I'm wrong!) is that if someone builds another office building next door, and doing so increases the value of that land for office space, that will push up the rent for both the church-owner and the office-owner, even if it only increases the value of the land when used for office buildings.<<<
While I agree that Georgism does have the corollary that it’s always individually rational to fight anything that creates positive externalities because they increase your tax bill, thaf’s actually a separate issue: my primary point was that the putative $100 / year market rent implicitly reflects the use of the parcel *when used for an office building* — and likewise, improvements in building technology would presumably make the land more valuable to the owner even considering that parcel in isolation and a static surrounding environment.
What this suggests to me is that the amount of land value allocable to improvements is basically going to max out at whatever the prevailing risk-adjusted rate of return is, but everything else up to that point can get thrown into the “unimproved land value” bucket — in other words, you would always want to own the land as long as you could generate any kind of positive return on capital (generally one that is also market clearing so that it justifies the opportunity cost of investment) , but because the return on capital is just [rents extractable from improvements - cost of capital], you can just keep increasing “cost of capital” (eg by increasing LVT assessment) up to the point at which the development of the property fails to delover a market-clearing RoR and the developer buys stocks or whatever and does something else with their money.
Put another way: the number that determines the hypothetical rent someone would pay (eg $100/sqft) is just whatever number allows the land in its maximally-improved state to return a market-clearing RoR. And the fact that that number is based on the land’s value *as improved* runs counter to the idea that Georgism is capable of taxing land wothout taxing improvements — instead, I would expect all of the total value (less that required to generate market-clearing RoR) to be characterized as part of the unimproved land value — and both any improvements you do make and the any you are *able to make* get eaten up by LVT. In turn, (and getting back to your original point above), knowing that the capacity to genrate rents will immediately be capitalized into unimproved land value reduces the incentive to ever improve land, except as a last resort when everyone else has done so, and makes *researching* improvements appear to have returns to basically no one.
This all matters a *lot* because one major pitch for Georgism is that it maximally incentivizes improvements because 100% of their value is kept by the improver - but actually if 100% of their value less only prevailing market RoR is capitalized into land, then, eg, assuming a market-clearing RoR of 7%, 93% of the value of improvements is actually de facto subject to tax! We’re back to taxing both land and improvements, just at a near-100% rate!
The separability of unimproved from improved value is sich a big deal that Lars Doucet’s Georgism
Primer has an entirre section labeled “Can Unimproved Land Value be Accurately Assessed Separately From Buildings?” In brief, I posit that it seems like it can’t — in fact, LVT is going to implicitly encompass the value of buildings even before they have been built!
https://astralcodexten.substack.com/p/does-georgism-work-part-3-can-unimproved
Got it. Very interesting point and very clearly stated. I want to try to re-state first before responding just to make sure that we're on the same page!
My understanding of your point is basically that the value of "unimproved land" is really the value of the ability to improve the land in whatever way is optimal given our current technology, tastes, etc. Maybe slightly more precisely, it's something like "the amount of rent that the second-most willing buyer would pay to access the land." What that implies is that if the most-willing buyer and the second-most-willing buyer are basically identical (same construction technology, same appraisal of the value of the parcel, etc.), a perfectly-applied tax would make a land buyer indifferent between buying and improving land and instead putting their capital toward some other purpose. That's fair as far as it goes, and is basically the same thing that a seller tries to do when they set a purchase price in a non-Georgist world, but is maybe a reason to aim for a 90% land value tax to make sure you don't overshoot and discourage development (just like a landlord might set rent a little below what they think they can get to avoid vacancies).
You're arguing though that there's a further issue, because if I come up with a way to make improved land more valuable than it was before (say, a new way of building skyscrapers that is cheaper), my innovation increases the value of *unimproved* land as well as the land on which I actually build my skyscraper. This is true because, assuming I can't keep my technique secret, all land can now use my improved skyscraper technique.
This problem is also not totally unique to a Georgist world--if my competitors will learn about my invention and be able to implement it, the benefits to me will probably dissipate from competition, and the purchase price of any new parcels of land on which I'd like to build my skyscrapers will go up. But at the very least in a non-Georgist world I would benefit from the fact that my innovation raises the rental value of my own property, even if I don't get the benefits from making my neighbors' property more valuable as well. In a Georgist world, raising the rental value of my own property only benefits the government.
This is an interesting point that I hadn't considered before. I agree with you that an LVT would reduce the incentive to create innovations in the use of land that can be copied by competitors, and that this is a problem because the incentive for that sort of innovation is already too small in a competitive marketplace.
One potential partial solution to this would be to set assessment periods far apart, perhaps with the option to ask for an early assessment. If you think of an LVT as trying to get to a similar outcome as the government owning all the land and auctioning it out to people, you could think of a wide assessment period (say, updating the tax every 10 years or every 20 years) as being analogous to auctioning off a 10-year or 20-year rental contract instead of a 1-year contract. The option of an early assessment would let a property owner get assessed before making a major improvement in order to lock in a tax rate for the full assessment period.
I mean the point of land value taxes is incredibly straightforward. taxing land does not reduce the amount of land. it does not have dead weight loss. whereas taxes on productivity have dead weight loss. land value taxes are obviously the right approach. any arguments about how accurately land values can be assessed independently of the value of the built structures is drastically missing the point. ordinary taxes are 100% dead weight lossy.... the entirety of the tax is a tax on productivity. Even if you are 10 to 20% off the mark on your assessment of land values, you're still doing radically better than any productivity tax. and such taxes are incredibly hard to evade.
I think this is too glib: the reason Georgism goes hard on not taxing improvements is that improvements are the land version of producitivity. If you make it unprofitable (or only marginally profitable) to build a hotel on the land, the hotel doesn’t get built. Of, as I hypothesize above, we expect the value of improvements to he capitalized into an LVT except for some market-clearing RoR, you’ve reduced the incentive for such improvements to the bare minimum. Not necessarily *below* the bare minimum, but it’s an absolute garbage place to look for alpha.
it doesn't matter if it's that accurate, the primary goal is to ensure that the amount of the tax can't be impacted by anything the owner does, which is what causes it to have zero dead weight loss.
taxes on productivity are essentially 100% dead weight loss. so even if you're only roughly in the ballpark on the correct land value tax amount, you're just doing quarters of magnitude better than a productivity tax. land value taxes thus obviously the right solution.
bingo!
I don't understand what is brilliant about it. what would be brilliant is to get out of the way and let the market work. move to efficient taxes on negative externalities and land and other forms of rent. provide a UBI instead of gift certificates on excludable goods and services.
That ratio of housing to stock and bond investments is horrifying.
In addition to your many points, much of China's development is car-dependent, due to single-use zoning and a lack of alternative ways to get around (because of all the large arterials and freeways to manage the massive traffic.) Auto-oriented development is expensive and wasteful; even in the US it's a strain, and it's going to be a massive burden going forward for a much less wealthy (per capita) China.
Hi Curt, could you say more about the zoning effects? As far as alternative ways to get around, I have to disagree: subway and bus networks in China's cities are generally much better developed than in the US, which combined with dockless share-bikes to solve the last mile problem, make public transit often as quick as driving to get from point A to point B.
I agree with Dan. Even tier 3 cities have a good combination of frequent cheap buses and lots of bike lanes for traditional bikes and e-bikes. Tier 1 cities have amazing subway systems.
I think all the tier 2 cities have built extensive subway systems at this point as well. I can think of Chengdu as an example I've personally seen.
It is conventional wisdom on Wall Street that Chinese stocks are for trading, not investing.
Circa 2008 there was enthusiasm about Chinese stocks due to their being easily investable via liquid ETF, the country's robust growth, and the all-time high prices observed in 2007.
Nearly two decades later, all that enthusiasm is gone. China's economic model, with it's reliance on SOEs and heavy-handed political control of firms generally, is simply incompatible with the aims of equities investors.
Shepherding retail into stocks would be a disaster in China. They will demand that the CCP ensure that the stock market never goes down, which will destroy that market entirely.
What do you mean by Chinese stocks are for trading? I'm based in HK so I have access to stocks on the HKEx and I might be able to get access to the ones on the three bourses in China (Shanghai, Star, ChiNext) but I haven't learnt much about options/trading although I would like to try just to learn for a year and with small amounts.
Do hedge funds actively try to short Chinese stocks when there are major developments because they anticipate Chinese retail investors or institutional investors with a China allocation will be slow on the uptake? Basically, it's a casino?
Casino, yep.
I'm not sure I understand your question about short sells. Hedge funds are pursuing all sorts of strategies in China, but not much long-term buy and hold style investing. Shorting stocks in China is generally much more difficult than for Western markets. It's difficult to locate shares to borrow from the brokers that operate in China, and the authorities come in and ban short-selling specific stocks, or the whole market, whenever they feel like it.
This thread explains well why "Chinese stocks are for trading" (speculating) but not investing: https://twitter.com/michaelxpettis/status/1602169259748216832
It seems as though moving to real estate taxation as a source of revenue will be difficult and perhaps result in a cycle of devaluation. Increased property taxes will result in decreased values of properties. The government will then have to increase tax rates to maintain revenue, which will cause further pricing pressure (who wants to hold an investment asset that has an unknown/increasing future cost?). How will they find an equilibrium until real estate is valued for its utility rather than as an (speculative) investment?
A lot of Americans who bought real estate before the crash already lived through this type of reckoning. We bought our first house in 2005, lived in it for 12 years, and sold it in 2017 for a 36% loss. This was the result of speculative buying in our area in 2005, and of course those famous loans with weird terms where you didn't have to repay all the interest for a while.
36% loss isn’t anywhere near as big as what’s happening if real estate prices have to fall from 18 times local income to a more normal 3-5 times local income.
In the CCP period, Chinese people have favored hard assets over intangible ones. They had little access to foreign markets and domestic markets were (and are) poorly regulated by international standards.
Property, precious metals and highly valuable assets such as jewelry and art were seen as more stable, more liquid and less likely to garner government attention. Where possible, many have sought to acquire property overseas or at least in Hong Kong, which is why HK has had the most expensive real estate in the world for much of the past 25 years.
As this post well explains, today’s credit fueled construction of new housing in China is not justified by housing needs while the viability of housing as an investment is greatly weakened. As was noted, the central government has some resources to moderate these impacts but application of these resources in specific situations may not be sufficient to avoid social disruption. It is not for nothing that the CCP is now increasing its surveillance and social control mechanisms.
This is occurring at the same time that China’s population is starting to decline and it’s advantage in labor costs is fastly eroding in favor of Southeast Asian and South Asian economies, among others. The central government may be able to catch this falling knife but it may be a bloody mess before the Chinese economy adapts to the ongoing squeeze.
Isn't it time for China to abolish the hukou system, at least for all cities except the big four?
Restricting rural-to-urban migration never made a lot of sense but with a massive oversupply of urban housing and a declining national population, it makes even less sense now.
I'm not an expert, but I believe that the CCP does not do this because they fear masses of rural Chinese flocking to the cities without being able to find employment. That would be socially destabilizing, which terrifies the CCP. The Hukou system keeps them on the farms, where productivity is quite low, but there's plenty of work to go around. The cities are already having a hard time employing their residents and a mass influx of relatively unskilled labor would exacerbate matters, at least in the short-term.
The masses have been flocking to the cities for decades already even without a hukou, and from a Govt social stability/services perspective, restricting migration via hukou restrictions made a ton of sense to them.
China’s National Development and Reform Commission (NDRC) proposed hukou reform a couple times in the past few years (‘22, ‘21, and ‘20), and required cities with less than 3 million in population (which aren’t super attractive to migrants anyway) to liberalize their hukou policy. There are more than 600 cities of this type in China. Top tier cities use a points system based on income, education, etc to determine which migrants can get a hukou - which acts as a filter of sorts.
Zhengzhou (~11 mill) is one of the largest cities to relax hukou restrictions, largely to support their struggling, oversupplied housing market & attract talented higher earners to fill that housing.
A few years back Shanghai announced that graduates of the city’s universities could acquire a Shanghai hukou, one of the most sought after in the country. Zhejiang province has also done something similar for recent graduates.
A person’s hukou is also linked to social benefits they can receive, and affects healthcare, pensions, receiving bank loans (for property etc), and which public schools their children are allowed to attend - so there are a ton of threads linked to the effects of hukou reform. Activists like Xu Zhiyong made a name pushing for hukou reform, so the Chinese Govt is sensitive to this issue in regards to social stability & activism.
It appears to me that most centrally directed hukou reforms have largely been diluted by local governments in the provinces. The reforms from Beijing so far are piecemeal changes rather than radical reforms, and local governments have few incentives to offer the full package of social benefits to the poor migrants - they prefer attracting talent/higher earners/potential homebuyers to offset the slumping property market.
I’m most curious to see what China will do re: property tax, and what the pushback will be.
Yes. I do wonder about China’s measures to get out of their financial crisis. These measures might mean inflating the debt, finding an industry to support fuller employment, or even export the debt. China is allowing countries to conduct trade with China in their own currencies. I wonder if this last allows for a swap of currency for Chinese debt? If not, it would be an interesting mechanism to explore.
Very interesting article, I'm sure you've read this news report that came out this morning?
https://www.msn.com/en-us/money/realestate/china-plans-new-property-market-support-package-to-boost-economy-bloomberg-news/ar-AA1c1Zan
Yeah. They're pulling out all the stops to support real estate, but I just don't think they can bring back the boom times.
"Regulators are considering reducing downpayments in some non-core neighborhoods of major cities"
LoL! What could go wrong???
A very well-written piece that is intelligent and accessible. Thank you!
Thank you!
“Regular households for whom property represents their retirement account will be pretty angry if they’re suddenly left unable to sell or forced to take a big loss.”
Real estate with 20% of GDP tanking, and 20% of youth (18-29) unemployed. Not good. China, like Iran, has a high percentage of youth living with Mom & Dad, which is not a good formula for new household formation and having children. What a drag on long-term demographics. And when the young unemployed graduates (10 million annually) can’t afford to pay rent, they will be forced to move back home to live with Mom & Dad, who likely invested a lot in their children’s education. Xi’s response: “Eat bitterness and move into rural areas.” I’m guessing this does not go down well with the educated unemployed and their parents. You can push people only so far before they push back. I don’t think building sandboxes in the South China Sea and “Jousting with Tom & Charlie” (ala Tom Wolfe) in the skies above are more important than domestic tranquility.
“Export industries generally have to be pretty competitive.” I’d agree if market forces were the only or most important factor of export success. But for China that’s not the case. The more they subsidize their exporters, the less productive they need to be to grab international market share: https://www.bloomberg.com/news/articles/2023-05-29/china-considers-tax-breaks-for-manufacturers-as-economy-cools
That is true, though ultimately that approach runs out of steam (which is why Korea offers only temporary support for exporters, giving them the chance to succeed or fail).
True, but unsustainable.
Correct. In 2007, then premier Wen Jiabao famously said that China’s economic development was “unstable, unbalanced, uncoordinated and unsustainable.”
https://www.scmp.com/week-asia/opinion/article/2085815/wen-and-now-chinas-economy-still-unsustainable
One thing that you didn't touch on; how has the real estate crash affected the financial sector in China? Because to me that's still the ultimate shoe to drop. In 2008, the real estate crash is what created the recession, but it was rotten structure of the financial system (shoddy underwriting practices, Credit default swaps given out like candy by AIG; the rea secret fulcrum around which the entire real estate economy apparently depended upon), that made the recession into the "Great" recession.
I know this answer is complicated because very often in China the lender is the government or that the lender is beholden to the government. But that only makes me believe that the underwriting practices that undergirded this explosive property growth must have made 2007 underwriting practices in the U.S. look like paragons of good risk management. So far it's only been Evergrande, but there has to be a number of other financial firms in China that are on the brink right now. And given the terrible incentive structure that was created via the lack of property taxes (having your local revenues entirely dependent on land sales just seems an absolute recipe for useless property construction), I have to believe we are likely going to see a pretty bad financial crisis coming soon.
I basically think that the Chinese government can prevent a financial crisis pretty easily, but there will be a cost to doing this.
By implication, I'm guessing you think the U.S. government could have prevented the financial crisis in 2008. Perhaps if Treasury had stepped in and actually rescued Lehman Brothers.
As an aside, I always found it really telling that for all the hand wringing about what the government could or couldn't do in regard to taking over banks, Treasury stepped in immediately and took over AIG. It's part of the reason why made that quip in my first post. And it really does seem like if AIG had collapsed without the government stepping in, the Great Recession may have been the Great Depression redux.
I have always found these kind of presumed counterfactuals deeply unconvincing.
I don't think that not bailing out financial institutions would have lead to a depression. People act like a bankruptcy means the whole bank just goes away. It doesn't. The functional parts of the business are quickly scooped up by still-solvent pools of capital. Look at what recently happened to Credit Suisse. A too-big-to-fail bank in Switzerland fails, and guess what? It was acquired by UBS and the Swiss aren't in a depression.
I think the American Left wants to believe that the bailouts were necessary (even though they deeply oppose them) because it gives a rationale for destroying Wall Street generally, a favorite past time. The right just likes free money for rich people, also a favorite past time.
Wrote about this way back in September 2021
https://open.substack.com/pub/contrarianpod/p/evergrande-and-the-trouble-brewing?utm_source=direct&r=ag2nj&utm_campaign=post&utm_medium=web
Always enjoy Noah's writing
Thanks!
Do the classic ghost cities play any part?
A little bit. Those are sort of the extreme fringe of the problem of overbuilding. But most of the ghost cities eventually got occupied to some extent.
There was a good interview with Yasheng Huang in re Development of the Chinese State on March 8 on the podcast “Conversations with Tyler”
https://podcasts.apple.com/us/podcast/conversations-with-tyler/id983795625?i=1000603291955
Oh yeah Huang is great.
Noah is spot on: “The fact is, China just doesn’t need that many more places to live.” So why does China keep building so much of it? My take: Chinese salaries and consumption are just too low. More here: https://open.substack.com/pub/debunkingthedebunkers/p/chinas-surging-auto-export-is-not