1. LECTURE 6: 19 MARCH 2017 ECONOMIC RETURN TO LAND RESOURCES
BPE 23302
LAND ECONOMY
LECTURE 6: 19 MARCH 2017 ECONOMIC RETURN TO LAND RESOURCES

2. ECONOMIC RETURN TO LAND RESOURCES
Concept of rent
Method of appraising land rent
Classical theory of rent
Significant of land rent

3. ECONOMIC RETURN TO LAND RESOURCES
Land of economic value consists of natural resources,
Including underground mineral, metals, and oil;
Including forest; the generic variety of life; oceans, lakes, and rivers;
The atmosphere;
The electromagnetic spectrum (for transmitting radio and television); and
The three-dimensional surface area of the earth as sites for living and working.

4. ECONOMIC RETURN TO LAND RESOURCES
Land other than natural resources has no value; otherwise it would be in the category of produced “wealth” .
“Land” will refer to natural resources unless otherwise stated.
Land is limited and scarce.
Land obtains a market value due to its usefulness over time and the scarcity of land of good qualities.
This value is called “land rent”.

5. ECONOMIC RETURN TO LAND RESOURCES
Concept of land

6. Concept of Rent What is rent? The word rent has several meaning.
First, means a payment for use of property, which includes the use of land as well as produced wealth, such as building, cars and computers.
Classical economic, means as the amount that one pays solely for use of land.
Layman, means as payments made to property owners for the use of their lands and buildings.

7. Concept of Rent The Concept of Rent All rents are based on scarcity.
A monopoly rent is created when supply is artificially constrained- restricting taxi licenses.
A scarcity rent is created when there is a limited or fixed supply of resource operating at infra-marginal efficiency.
A Ricardian rent initially referred to the fixed supply of arable (or productive) land.
There are three different concept of rent;
Contract rent
Land rent and
Economic rent

8. Actual payments tenants make for their use of the property and others.
Concept of Rent
Contract rent (Rc)
Actual payments tenants make for their use of the property and others.
The amount of these payments is normally agreed to by the landlord and tenant in advance of the period of property use and thus stems from mutual contractual agreements.
These concept is more or less synonymous with the popular meaning ascribes to the term “rent”.

9. Theoretical earnings of land resources.
Concept of Rent
Land rent (Ri)
Theoretical earnings of land resources.
Economic return that accrues or should accrue to land for its use in production.
Applies to combined earnings of raw land and other improvements on the land.
These distinctions are made with respect to:
Different classes of land
Fertility or site quality of land
Location effects.

10. Over time economic rent disappears as supply rises.
Concept of Rent
Economic Rent
Defined as the surplus of income above the minimum supply price it takes to bring a factor into production.
A short run phenomenon
A surplus that a productive factor can earn because of unexpected demand or supply conditions.
Example, a real estate can earn an economic rent above its normal land and contract rents under a short term supply deficits, enabling the owner to raise rental rates.
Over time economic rent disappears as supply rises.

11. Concept of Rent
Land rents and contract rents are more important concept in land economics.
These concepts differ from each other in one significant respect.
Contract rent involves an actual payment to the property owner.
This payment may either exceed or fall below the amount of land rent.
Contract rent may exceed/fall below the theoretical land rent.
If ( Rc) > (Ri) : Tenant must contribute the difference by reducing returns to other inputs.
If (Rc) < (Ri) : Tenant will pocket the difference.

12. Concept of Rent How Does Rent Arise?
The value of land is due to a variety of sources.
There are three types of land;
Fixed material resources
Renewable resources
Space.

13. Method of appraising land rent
Land rent as an economics surplus
Land rent as residual economic surplus
Total value product or of the total returns that remains after payments is made for the factor costs, respectively.

14. Value of product per output unit
Figure 2: Illustration of the effects differences in land quality have upon the amounts of land rent that accurate to three grade of land
Value of product per output unit
Grade A land AC MC
Production Costs
Cost and Return
Land rent
Grade B land
Grade C land
The units of output secured from three different grades of land can be assumed to have the same market value.
The average cost of production per output unit lower on the grade A tract than on the Grade B and C tracts because of the total cost of production is appear over more units.
With these differences in average unit production costs, the grade A tract yields considerable land rent, the grade B tract a smaller amount of rent and the grade C tract produce barely enough to pay is production costs.
With higher prices or lower costs, rents rise along line- even on the grade C land.
Lower prices or higher costs, in turn, would lower the rents secured on the A and B tracts and force the grade C land out of use.

15. Figure 3: Illustration of the effects of differences in accessibility upon the amounts of land rent that occur to three tracts of land of comparable quality located at differences distances from market.
Net value of price per unit of output ( after deduction of shipping costs) at point of production
Site of Market AC MC
Production Costs
Cost and Return
Land rent
Units of Output
Site 250 miles from market
Site 500 miles from market
The first diagram indicates the amount of land rent that can be expected on a site located at the market. Lands located at greater distances must pay a shipping cost to get their products to market.
The lower net price received by producers located 250 and 500 miles from market has considerable effect in reducing the amount of land rent received at these locations.
These area are just as productive as those located at the market; but with a transportation-cost handicap , the operators located at these distances must gear their production to a lower net price level.
The lower land rents associated with the received by the operators at these locations and to the effect of this lower price level in cutting back the number of variable inputs operators can profitably employ in production.

16. Classical Formulation of Rent Theory
Sir William Petty made some pertinent observations concerning land rent.
The classical rent theory with group of English economist at the Napoleonic Wars.
The British Parliament- Controversial Corn Law and to publish their views regarding the nature of rent and certain related subjects.
Thomas Robert Malthus, David Ricardo & Johann Heinrich Von Thunen made significant contributions to present land rent theory.
Malthus – residual surplus concept
Ricardo – attributes rent to differences in fertility as basic for classical concept of rent.
Von Thunen - explained rent in terms of differences in location with respect to a central market.

17. Classical Formulation of Rent Theory
a) David Ricardo Theory p Rent variation due to fertility.
Ricardo emphasis upon differences in fertility
Basic premise: When land is rich, fertile and abundance; there is no rent on agricultural land
Rent arise when there population increase and excess land demand making it necessary to bring less fertile land into use.
Hence a price rises to compensate for the higher cost at the new extensive margin of cultivation.

18. Classical Formulation of Rent Theory
Assume:
There are 4 types of land
Total cost of labor and capital inputs on each tract is RM 100
Owing to varying fertility;
Output declined with reducing fertility : 50 units (tract A); 40 units (B); 30 units (C); 25units(D).
Average production cost rises : RM 2 (Tract A); RM 2.50 (B); RM 3 (C); RM 4 (D).
When there’s enough grade A land providing needed output, market price (P) remains and equal to average production cost AC
P = AC = RM 2 : No Rent

19. Classical Formulation of Rent Theory
When output and land demand rise, the rise in production cost at grade B land, necessitates a market prices increase
( RM 2.50) to make farming in grade B land viable. This creates rent for grade A land.
This proceeds until all land grades are utilized and prices rose to RM 3 and RM 4

20. Classical Formulation of Rent Theory
Ricardian Theory assume that:-
Prices are set by production cost at the extensive margins of cultivation,
Rising prices raise the intensive margin in the more fertile land. Production levels and rents increase.
Alternatively, Ricardian rent can be illustrated by using cost curves, which shows rising rents as a prices increase.

21. Classical Formulation of Rent Theory
Ricardo was concerned almost entirely with the problem of agricultural rents.
Analysis by assuming newly settled with “ an abundance of rich and fertile land, a very small proportion of which is required to be cultivated for the support of the actual population”.
He argued that only the most fertile lands would be brought into cultivation and that no payment of rent would be associated with their use.
Rents arise on these lands only when increase in population numbers and in the demand for land make it necessary for society to bring less fertile lands into use.

22. Classical Formulation of Rent Theory
Productive capacity of land and amounts of land rent which arise as a successively less and less fertile grades of land are brought under cultivation. 10 10 10 5 5 5
Assume four grades of land with yield capacities of 50, 40, 30 and 25 units of product for given input of capital and labor. A B C D
GRADES OF LAND
Illustration of Ricardo’s explanation of land rent

23. Classical Formulation of Rent TheoryB C D RM
4.00
Average production Cost average land rent per unit of output produced
3.33
2.50
2.00 50 40 30 25
Units of Output Produced on Four Grades of land
Alternate presentation of Ricardo’s explanation of Land Rent

24. Classical Formulation of Rent Theory
Ricardo believed that farm product prices are determined by the product needed by society.
The prices are set by production costs at the intensive and extensive margins of cultivation.
Product prices must rise with the outward shift of the extensive margin on the more fertile lands and thus favor their intensive use.

25. Classical Formulation of Rent Theory
b) Johann Heinrich von Thunnen- Rent variation due to location.
When crops produced for a central market are grown on land of equal fertility, the land located closer the market enjoy a rent advantage than those located further away.
The extent of the rent variation corresponds with the difference in transportation costs.
Given that market price and average production cost remain fixed, declining rent is contributed by rising transportation cost.

26. Classical Formulation of Rent Theory
Rent drops and production costs exceed total market value of all points beyond this no-rent margin
Market Price
Land rent
Total
Cost
And
Value of
product
Land rent
Transportation costs 12 9 6 3
Other production and marketing costs
No-rent margin
Miles
miles
Distance to factory or other market
Distance to factory or other market
Relation between rent and location

27. Classical Formulation of Rent Theory
Use capacity and rent paying ability;
Site Fertility and Location
Rent paying ability is influenced by other factors
Management efficiency
Land quality factors
Accessibility to basic and recreational facilities which raises productivity at a cost.

28. Classical Formulation of Rent Theory
Rent Arising From Location
Ricardo’s explanation of rent in terms of dife

29. Classical Formulation of Rent Theory
Other views concerning rent
Rent as an unearned increment
Rent as a return on investment

30. ECONOMIC RETURN TO LAND RESOURCES
Significant of land rent

31. Significant of land rent
To contract rental arrangements
To property values
To land resource investment
Development decisions
To the allocation of land resources between types of use.

32. Significant of land rentB
AC MR = AR
AC MR=AR MC MC
Costs & Return
Illustration of effects of high and low tenant bargaining power upon land rental levels
2 tract of land of comparable productivity, same market.

33. Significant of land rent
Tract A,
Tenant have wide choice of employment opportunities (other than farming), low competition for land among small number of tenants.
Tenants have high bargaining position
Can insist upon high return of their labor and management inputs
Consequently lower land rent for the landlord

34. Significant of land rent
Tract B,
Tenants scarifies part of their returns to labor and management inputs.
Landlord obtain short run economic rents on top of land rent components of contracted rent.

35. Significant of land rent
Use of land rent for determining land values
Ability to predict future flow of land rents.
Enable owners and investors to determine land values used in of the purchase and sales of land resources.
Land and real estate have a current market value equal to the present value of their expected future and rents.

36. Significant of land rent
Land resource development decisions
Expected future flows of land rents and profit associated with alternative land uses provide a guide for investments in existing and future land resource development.
Cost Benefit Analysis (CBA) is a technique used to determined the economic surplus or returns from alternative projects to help make alternative investments decisions.
NPV = Net Present Value of alternative land resource development project

37. Significant of land rent
Four land uses may include:
Commercial uses
Residential uses
Arable farming
Forestry.

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