Planning, Property and Economics


Thomas Kokkinos-Kennedy

Semester 1, 2009, Assessment Two
Research Essay

Are the concepts and ideas proposed by Henry George in 1879 still relevant in understanding socio-economic aspects of the property market in contemporary Melbourne?

This essay will begin with some background to Henry George the man and his historical context, followed by an outline of the main concepts of his ideas. We will then look at some of the adherents of those ideas today in order to situate them in the contemporary economic context.

The final section of the essay will focus on understanding the city of Melbourne using the Georgist framework, focusing on the analysis of wealth harvesting through real estate.

Land Tax Stops This!

This photograph, taken about one hundred years ago, paints an eloquent picture of the process of land-based wealth farming. Henry George published his major work, Progress and Poverty in 1879. He was primarily a social philosopher driven by the belief that ‘…the two realms of man’s life, the moral and the material, must be brought into harmony.’ (Wasserman 2003 p24)

George could not countenance the disparity that he witnessed in ‘…the persistence of widespread poverty in the face of an unparalleled increase of wealth.’ (Wasserman 2003 p26).

George identified, ‘… three factors of production: the land and its resources (as natural opportunity); labor (as every form of human effort, mental as well as physical); and capital (as wealth used to produce more wealth).’ (Wasserman 2003 p27).

Land was the primordial, God-given fundament upon which all human endeavour took place, labour was the human effort, and capital was the wealth used in the generation of more wealth. Whereas labour and capital were identified as the active agents in his economic model, land was identified as a ‘…. wholly passive agent.’ (Wasserman 2003 p27).

Fig 1 pithily portrays the land issue which George saw as the root cause of the boom-bust cycles of industrialisation with its accompanying increase in poverty; the ‘…unnatural and pernicious act against the community…’ of land speculation (Wasserman 2003 p39).

Simply put, the worker earns their wages, the capital earns its interest, and the land earns its rent. The issue of land rent is central to the understanding of the Georgist view.

Land rent has two distinct, often conflated components; rent for the improvements on the site (use of a factory or a house on the site), and rent for the use of the raw land itself.

Implicit in this understanding is the site’s position. George refers to the raw land component of the rent as ‘ground rent’ (Wasserman 2003 p31), and it is this portion of rent on which Georgist ideas are focussed.

For example, a CBD site has a higher ground rent component than the same sized site in South Morang, and the difference is location-based demand.

The CBD, being a first order location in Christaller’s Central Place Theory (Engels 2009), means that it attracts more market demand than the sixth order peri-urban South Morang, and the demand /supply equation explains that where the supply of goods (land) is fixed, an increase in demand will raise the price of those goods to the level the market will bear.

George argues that this increase in value is socially created value which justly belongs to the community and not to the individual, passive site owners. JS Mill (Nat. Bus. Rev. 2009 p01) concurred with this concept, as did Friedrich von Hayek (Poole 1978 p01).

Bear in mind the Georgist definition of ground rent is based on the unimproved land value. The building situated upon the land represents working capital, and falls outside the Georgist remit, and it is here that his ideas appear in their radical form: ‘The “sovereign remedy” that George proposed as the way to end poverty was to shift the entire burden of taxation from the products of labor and capital to the socially created rental value of land.’ (Wasserman 2003 p25)

“The value of land,” George asserts, “expresses in exact and tangible form the right of the community in land held by an individual.” (George 1876, quoted in Wasserman 2003 p30)

Most importantly, such a tax would end land speculation and allow a more equitable distribution of wealth into welfare and infrastructure (Wasserman 2003 p36, 42. Stilwell Jordan 2004 p121), and so effect George’s cherished goal of realigning the economic system to provide ‘…the means by which the human being could best realize his intellectual and moral capacities.’

(Wasserman 2003 p36). From this brief overview of the ideas of Henry George, and how he saw them as changing society for the better, we shall look at socio-economic aspects of the Melbourne property market through the Georgist lens.

Looking at the graph in fig. 5.01, it can be seen that in 2004, Land Tax comprised a fraction of the overall state tax revenue at just 4.5 %. The rate remained unchanged in the financial year ending 2008 (ABS 2007-08). This tax, though it is applied to what Georgists refer to as unearned increment, captures ‘…betterment or reflect(s) worsenment only to an insignificant extent each year.’ (Day 2005 p14).

Land Tax is ‘… an annual tax on the total taxable value (previously known as ’unimproved value’) of all land owned in Victoria …’ (SRO 2009) There are considerable exemptions from this impost however, the chief among them being the owner occupier. These exemptions have considerable externalised social costs: Allan Hall (quoted in Pro. Comm. 2004 p106) stated that: ‘… the main problem with the distribution of the taxation benefits of home ownership is … that the net benefits of the tax subsidies are limited to home owners and are at the expense of renters who include a large part of the poorest members of the community.’ It is the renters on low incomes and with low wealth who ‘… will probably…bear the burden of land tax.’ (Gabbitas Eldridge 1998 p163).

The owner-occupier benefits through an exemption from the land tax, and the landlord benefits through being able to pass the tax onto the renter. Clearly, the Georgist impulse to redress social inequity is not being furthered through the current owner occupier land tax exemption.

Within the LGA of Yarra, overall property values in the period Jan 2006 – Jan 2008 increased on average by 33.3 % (Yarra CC 2009).

With the April 2009 median house price in Richmond being $ 637,000 (R E com 2009), this represents in Georgist terms a wealth transfer from the community into private hands in excess of $ 200,000 per median land title. Using Yarra council’s own practical example of rate calculation, an annual increase in the Capital Improved Valuation (CIV) from $ 405,000 to $ 550,000 will yield a return to the community of just 0.8% (Yarra CC 2009).

This is not quite the model that Henry George conceived, and for two reasons: One is that the tax is based upon the CIV and not the raw site value which George envisaged; and the second is that it does not capture enough of the ground rent to avoid the evils of speculation, on which more will be said later.

In NSW, between 1993 and 2003, land values increased $ 361 billion, of which the sum total of local and state government taxes levied on this wealth amounted to 12%, meaning that ‘…88% was retained as ‘unearned income’ by landowners.’ (Stilwell Jordan 2004 p125).

The ease with which this wealth accumulates (in a rising market) is a known driver of speculation (Stilwell Jordan 2004 p121, Stilwell English 2004 p 01, Berry 2006 p34, Putland 2009, Foldvary 1997). Kavanagh shows this trend continuing, with the 2007 national property tax levies leaving 86% of the $ 325 billion annual ground rent to ‘…be privately capitalised into the bubble ..(which has)..developed remorselessly over eight years from 1999…’ (Kavanagh 2009).

The 2004 Productivity Commission Report on First Home Ownership concurred, accepting that there had ‘…been a ‘bubble’ dimension to housing demand and the associated increase in borrowing, especially in the past two or three years.’ (Pro. Comm. 2004 p52).

A more detailed examination of the current taxation system as it pertains to the ownership of land, particularly investment properties will provide some indication of how the structural bias of the tax system encourages and rewards land speculation. (Stilwell English 2004 p12)

Currently, ‘Investors can make several taxable deductions for rental-property expenses including, but not limited to, advertising costs, agent fees, body-corporate fees, council rates, gardening, pest control, repairs and maintenance, water charges, bank charges and even loan interest…(as well) Interest costs that are not covered by rent are claimable.’ (Kristy Sheppard, senior corporate affairs manager at mortgage broker Mortgage Choice, quoted in Binnie 2009).

Another way of looking at this set of relationships is to say that a non-occupant property owner (landlord) receives assistance from the Federal government via the current taxation regime in covering the costs incurred in accumulating wealth (bear in mind the 33% median rise in Yarra LGA over a two year period).

Henry George may be happy to know that changes to this ‘unnatural and pernicious’ system are still being proposed today.

Before we look at the current proposals for changes to the tax system, it is useful to relate the historical context of ‘betterment levies‘ in Australia.

Betterment, or ground rent in Georgist terms, ‘…can be defined as benefit or advantage conferred by a public authority on identifiable beneficiaries – … If it is not recovered, the benefit or betterment is an unearned windfall increment in value conferred upon the private beneficiaries.’ (Day 2005 p01).

In 1973, the NSW government abandoned an arguably successful betterment levy, of which the NSW planning and Environment Commission stated that, though ‘No government in Australia has yet been able to devise a politically viable betterment tax…the possibility of introducing a similar type of tax should not be discarded.’ (Day 2005 p09).

Moving on to the present, early indications from the Henry Taxation Review propose, among other things, that; negative gearing should be scrapped and replaced by standard imputed profit margins on rental housing investors, home owners should be taxed an imputed rent on the annual value of their housing, taxing investors annually on the accrued capital gains from the rising value of their investments in shares, property and antiques (a holding tax, effectively). (Colebatch 2009 p03)

In keeping with the Australian tradition of opposing any change to land owners ‘defacto’ property rights (Banks 2006 p05), these proposals have been labelled ‘…provocative and politically unrealistic’. (Colebatch 2009 p03).

Nevertheless, what is being proposed could effectively capture a portion of the 86% of publicly generated land rent which currently supports the land bubble. (Kavanagh 2009).

Stilwell and English state the current taxation arrangements set up a situation that creates ‘ a key driver…(of negative housing affordability through)…the focus on housing and land as sources of capital gains rather than residential use-values.’ (Stilwell English 2004 p12).

The application of even a modest form of ground rent may improve housing affordability through its effective reduction of ‘…the attractiveness of land as a speculative investment….(and that that) reduced speculative demand can be expected to produce more land/housing price stability.’ (Stilwell English 2004 p10).

These finding concur with Kavanagh’s contention that ‘…it may be dawning on politicians and analysts that the real estate bubble was the inevitable result of inadequate land-value capture.’ (Kavanagh 2009)

The final aspect of Melbourne through the Georgist lens is that of infrastructure. In 2007, the broadacre infrastructure charges per lot were $ 5,400 (NHSC 2009 p127). In 2009. the figure is $7,900 per lot (Costelloe 2009), which, with a median retail land price of $169,975 represents just over 4.6% of the land purchase cost.

If we take Wyndham as the example with a median build price of $208,000 (Perkins 2009), the infrastructure charges comprise just 1.9% of the house and land price. It is therefore difficult to argue that these charges adversely impact housing affordability, a view shared by the Productivity Commission (Banks 2006 p05).

That being said, recent research has generated a figure on the externalised costs implicit in the provision of infrastructure in peri-urban development. This figure, which includes greenhouse gas costs, infrastructure costs, transportation costs, and health related costs is $ 56,773 per lot, per 1,000 lot development, per 10km increment from the CBD. (Trubka, et al 2008 p28).

Placing these figures in the context of Wyndham being 25kms from the CBD, the externalised infrastructure cost is just over $130,000 per lot. This cost is ultimately funded by the community through state, local and federal government taxes.

Arguably, there is great common sense to this practice, but the Georgist point that ground rent would finance infrastructure is cogently illustrated in the fact that if all the 284,000 new homes anticipated in the growth areas over the next twenty years (GAIC 2009) attracted an infrastructure cost of $130,000, the total figure would be $36.9 billion. This figure represents just 11.3% of the $325 billion national ground rent generated in 2007 alone (Kavanagh 2009).

Perhaps a clue to understanding the enculturated practice of wealth farming lies in the Productivity Commission Chair’s choice of the term ‘defacto’ to describe Australians relationship to property (Banks 2006 p05).

The Oxford English Dictionary puts the term as meaning ‘existing in fact, whether by right or not’ (OED p267). That these ‘defacto’ rights do exist; that they have a very structured form, and that they manifest socio-economic bias has been highlighted through this Georgist analysis of the Melbourne property market.

References:
Australian Bureau of Statistics 2007-08 Taxation Revenue, Australia 5506.0 ABS Austat

Also here (accessed 2009/05/29)

Banks, G. 2006 Explaining the housing market puzzle. Chairman, Productivity Commission – Speaking notes for a presentation to a session with the above title at the Centre for Independent Studies Consilium, Coolum, Queensland, 12 August 2006

Berry, M. 2006. Housing affordability and the economy: A review of macroeconomic impacts and policy issues. National Research Venture 3: Housing Affordability for Lower Income Australians. Research Paper 4. Australian Housing and Urban Research Institute, RMIT-NATSEM Research Institute.

Binnie, C. 2009 Tax deadline for investors. Herald Sun, Melbourne Sat, June 20 p 09.

Concise Oxford Dictionary, 1976. 6th edition, Oxford University Press, Oxford, UK.

Colebatch, T. 2009 Scrap negative gearing: experts. The Age, News p 03.Sat June 20.

Costelloe, R. 2009 Executive Director, Villawood Properties. personal communication on 9th June

Day, P. 2005 Incentives and disincentives: The potential of property taxes to support public policy objectives. Urban Policy Program, Issues Paper 4, January.

Engels, B. 2009 unpublished lecture delivered at RMIT Melbourne, 21st April

Foldvary, F. E. 1997 The business cycle: a Georgist-Austrian synthesis. The American Journal of Economics and Sociology, October. (online) (accessed 2009/05/24)

Gabbitas, O. Eldridge, D. 1998 Directions for State Tax Reform. Productivity Commission Staff Research Paper, AusInfo, Canberra, May.

Growth Areas Infrastructure Contribution. 2009 Information sheet (online) Growth Areas Authority (accessed 2009/05/14)

Kavanagh, B. 2009 Breaking in on the rent seekers. (accessed 2009/05/15)

Land Values Resarch Group 2009 CIV rating cops a broadside (online)

The National Business Review Land tax boosts growth, efficiency. 22 May 2009

National Housing Supply Council 2009. State of Supply Report: REPORT 2008

Perkins, A. 2009 Director, Research Division, Oliver Hume. unpublished lecture at RMIT Melbourne. 12th May.

Poole, P. E. 1978 Who Is Crippling the Free Market? The School of Comparative Individualism (online) re Hayek (accessed 2009/05/15)

Productivity Commission 2004, First Home Ownership, Report no. 28, Melbourne.

Putland, G. R. 2009 How Australia loses $1 trillion a year. (accessed 2009-05-15)

Real Estate.com 2009 (accessed 2009/06/19)

State Revenue Office Victoria 2009 Also here
(accessed 2009/06/07)

Stilwell, F. English, J. 2004 HOUSING AFFORDABILITY, STAMP DUTY and LAND TAX School of Economics and Political Science, University of Sydney. Working Papers. ECOP2004-2

Stilwell, F. Jordan, K. 2004 The Political Economy of Land: Putting Henry George in His Place JOURNAL OF AUSTRALIAN POLITICAL ECONOMY No 54, pp 121-134.

Trubka, R. Newman, P. and Bilsborough, D. 2008 Assessing the Costs of Alternative Development Paths in Australian Cities Curtin University Sustainability Policy Institute, Fremantle. WA.

Wasserman, L. 2003 The Essential Henry George. American Journal of Economics and Sociology, vol 62, No 5, pp 23-43.

Yarra City Council 2009 Valuations and Rates Also here (accessed 2009/06/06)

Appendix 01 – Definition of the bubble effect.
Case and Shiller (2004, quoted in Berry 2006 p 27-28) define a land bubble thusly;

‘The term “bubble” is widely used but rarely clearly defined. We believe that in its widespread use the term refers to a situation in which excessive public expectations of future price increases causes prices to be temporarily elevated. During a house price bubble, homebuyers think that a home that they would normally consider too expensive for them is now an acceptable purchase because they will be compensated by significant future price increases. They will not need to save as much as they otherwise might, because they expect the increased value of their home to do the saving for them.

First-time homebuyers may also worry during a housing bubble that if they do not buy now, they will not be able to afford a home later. Furthermore, the expectation of large price increases may have a strong impact on demand if people think that home prices are very unlikely to fall for long, so that there is little perceived risk associated with an investment in a home…. If expectations of rapid and steady future price increases are important motivating factors for buyers, then home prices are inherently unstable.

Prices cannot go up rapidly forever, and when people perceive that prices have stopped going up, this support for their acceptance of high home prices could break down. Prices could then fall as a result of diminished demand: the bubble bursts.’

1 Comment

  1. Edward J. Dodson16-04-2010

    We owe to Henry George an enormous debt for the body of work he left to us. Sadly, mainstream economics fails because of flawed analytics to offer solutions to dysfunctional property markets.

    Convincing the public and officials to change the way government raises its revenue — that is, to collect the rental values of locations (and other forms of rent associated with economic license) has been a daunting challenge in the face of determined vested interest and public apathy.

    Listening to the daily media coverage of the global financial meltdown reveals just how little understanding there is of property and credit markets among analysts. There is almost no recognition of the land market as driver in the property market collapse. We hear constantly about the so-called “housing bubble,” when what burse was speculation-driven land market, fueled by easy and cheap credit, by predatory lending practices and widespread fraud.

    The first regulatory step that needs to be taken (while pursuing a shift to the public collection of location rental values) is to prohibit any financial institution that accepts government-insured deposits from lending for the purchase or refinancing of land values. This one measure will significantly lessen the intensity of the next upward climb in land prices while protecting the bankers from their own tendency to be imprudent in their lending.

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