The Great Land Banking Scam Exposed

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It should come as no surprise that real estate kingpins buy political favors on a regular basis. In the US, large scale developers are typically significant donors to both political parties, even if they favor one to the other.

A study in Australia gives a more concrete estimate of the payoff from greasing political wheels. From the Guardian’s summmary:

Researchers have quantified the value of political connections to property developers in rezoning decisions worth “many billions of dollars” across Australia every year.

A new study, “Clean money in a dirty system”, which examined the record of Queensland’s Urban Land Development Authority (ULDA), found developers connected to networks containing politicians and bureaucrats were 19% more likely – and those at the centre of networks 44% more likely – to win favourable decisions than “outsiders”.

University of Queensland economics researchers Cameron Murray and Paul Frijters said outsiders could, however, buy their way into “the right club” by paying lobbyists such as former politicians, boosting their prospects by 37%.

As the overview by Cameron Murray explains, the study focused on land banking. If you’ve had any exposure to real estate, you’ll know that buying raw land for investment is speculative. It produced no income till it is developed, so the investor has his capital tied up. It’s very hard to get loans against raw land, so the speculator is either borrowing personally or making an all-equity play, which goes against the general rule of using other people’s money whenever possible. I don’t know about you, but I’ve met only a few people who’ve bought raw land to develop. One made over $100 million in Vegas before the bust. The other was $3 million in debt personally at the age of 30, and that was in the early 1990s, when $3 million was worth a lot more than it is now. One has to wonder if it makes sense to land bank at all if you haven’t bought a politician or two.

By Cameron Murray, a professional economist with a background in property development, environmental economics research and economic regulation. Cross posted from MacroBusinesss

Property development can be a dirty business, particularly when it comes to land-banking, which is the speciality of Australia’s largest developers.

Land-banking involves the speculative buying of large parcels of land that are currently unsuitable for development in the hope of future development potential. But hope alone is not a business strategy. How can land banking be so routinely successful for developers in Australia?

One argument is that successful land-banking comes from political favours in terms of rezoning and public provision of infrastructure. These favours provide substantial value gains to landowners at no cost to themselves. While in certain cases this account appears to have some merit, there has been no systematic evidence that rezoning favours the politically connected.

Until now.

My new working paper, co-authored with Professor Paul Frijters, can be download here. In it we report a systematic and controlled study of the role of relationship networks in land rezoning decisions in Queensland.

The basic result is this: How well-connected you are determines how successful you will be in getting your land rezoned for higher value uses. In Queensland $410million worth of additional development rights were given to mates in just our sample of decisions.

In the study we use sample of planning decisions and landowners involving a total area of 12,676Ha, made by one State authority, the Urban Land Development Authority (ULDA), which took planning powers away from local councils with the intention to increase the scale and speed of development in the rezoned areas. Throughout its time the ULDA was no stranger to accusations of bias, with the Local Government Association of Queensland arguing the government is “playing politics and favouring developers.”

In order to establish how well-connected both rezoned and non-rezoned landowners were, we trawled through a wide range of data on political donations, lobbyists and their clients, industry groups memberships, politicians and their former employers, relationships of ULDA board members, and landowner’s corporate records, in order to construct a relationship network.

We also compiled historical sales data to estimate that this series of rezoning decisions increased the value of the rezoned land by $710 million.

Our main finding however, is that well-connected landowners owned 75% of the rezoned land, but only 12% of comparable land immediately outside the rezoning boundaries, indicating that these decisions were primarily driven by the relationship networks of the landowners, rather than any technical assessment of efficient and appropriate locations for urban expansion.

Political favours in the property industry were found to be much more about being part of the entrenched well-connected political class, whose tight-knit mutual relationships support implicit favouritism, than about visible activities such as making political donations.

These well-connected landowners made $410 million in profit from the rezoning decision, at the expense of the public at large who had the option to instead sell those additional development rights. The data tells the story that connected property developers bought land unsuitable for development on the urban fringe, then successfully lobbied State politicians and bureaucrats through their relationship networks to rezone areas where they had bought properties, wrong-footing both councils and other property developers. This process of influence took 7 years on average.

Scaling up our results suggests that the ‘back-scratching’ rezoning game has probably cost the general public many billions of dollars in Queensland in the last few decades.

We propose a number of technical solutions to this great game of political favouritism in land rezoning. The size of the gains to rezoning can be diminished by increasing land taxes. Development rights could instead be sold to land owners, perhaps through local auction processes, or the value gains recovered through a betterment tax. Even a local democratic system for voting on new areas for urban expansion would counterbalance vested interests with the interests of the public more broadly.

One unfortunate lesson however, is that the same relationship networks that allow favouritism to thrive in rezoning decisions will obstruct any systematic reform of rezoning processes.

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  1. readerOfTeaLeaves

    Our main finding however, is that well-connected landowners owned 75% of the rezoned land, but only 12% of comparable land immediately outside the rezoning boundaries, indicating that these decisions were primarily driven by the relationship networks of the landowners, rather than any technical assessment of efficient and appropriate locations for urban expansion.

    Wow, that is one eye-popping bit of research.
    BTW: Anyone know how much of that 75% lies within floodplain? Because the Brisbane River floods really badly at times, but flood plain properties are often bought up very cheaply. This might be an even wilder story than we realize.

    At the local level, I see this kind of petty corruption and captured agencies fueling a sullen, widespread resentment of government in general. The problems of rapid growth escalate so quickly that they are unmanageable, further delegitimizing government; it’s a negative feedback loop.

    In my observation, the developers are making so much money, so fast, that they don’t really care — they can fly off on their own private plane. Or spend the summer on their yachts. Meanwhile, the rest of us are stuck in traffic and not feeling all that charitable about the people allowing the promiscuous rezones.

    1. Skippy

      One of the desires for serious IP et al sorts is acquiring sufficient stock from a block up to a suburb in order to be a price setter.

      To your question about floodplains, yes in the last decade plus a good quantity of land developed is historically flooded, tho 50-100 year projections. From my industry perspective this was viewed as nothing burger due to the RE stock not being build to last in the first place. RE seemed to have a Equity based approach to the buyer w/ 3 to 6 years flipping anticipated E.g. RE was envisioned as a short term financial vehicle for both the buyer and the seller right up through the securitization – cash flow food chain.

      The crazy bit now is, as you note, fundamentalist propertarianism sorts and associated sundry are cracking a fat, about Gov not opening up the flood gates for development in order to allow supply and demand metrics [?] lower the cost of RE, unintended consequences be damned.

      Skippy…. sad bit is since its the only game in town [steaming pile of —-] it attracts the most blow fly’s.

      1. readerOfTeaLeaves

        Wow, what a response! Especially:

        RE seemed to have a Equity based approach to the buyer w/ 3 to 6 years flipping anticipated E.g. RE was envisioned as a short term financial vehicle for both the buyer and the seller right up through the securitization – cash flow food chain.

        In my experience, floodplains are critical for ag — so not only are the rezone rules screwing taxpayers financially, it’s going to turn into a resource/food security issue (if it hasn’t already).

        Wow… and I’ve heard through my grapevine that there is a sh!tload of out-of-country ‘investment’ and a lot of migration pressure happening in Brisbane these days. If so, that’s exactly what I’m seeing in the Puget Sound region, as well.

        We need new economic thinking. And fast.

  2. ewmayer

    I am shocked – shocked! – to see influence-peddling going on at this nexus of money and politics.

    In other Oz-economic news:

    Turn out the lights as commodity spending boom ends | Sydney Morning Herald

    $200 billion represents over 10% of Australian GDP. Good thing the flood of hot money from China keeps pushing real estate prices higher, otherwise Oz housing prices might start threatening to drop dangerously back in the direction of non-lifetime-debt-peonage levels. Mustn’t allow that!

    But I’m sure like most elected governments, Oz’s has wisely socked away lots of the revenue flood from the boom years to prepare for the ‘seven skeletal cows’ years of the famous biblical parable. Oh, wait…

    1. lolcar

      A sovereign currency-issuer saving “revenue” is meaningless. If purchasing assets is what you mean then the Australian sovereign wealth funds stand at around 120 billion.

    2. readerOfTeaLeaves

      In the Puget Sound region, real estate notices in some of the tonier neighborhoods are now being published in both English and Mandarin.

  3. Mark Dempsey

    This is really not news. This editorial is from 2003. Michael Hudson notes real estate taxes are one remedy.

    The work-around for controlling the land without loans is options. Often enough the land is worth 50 to 100 times what the speculators get as the option strike price.

    Perhaps the worst aspect of encouraging such unproductive activity (i.e. land speculation) is the kind of development it encourages. Is it 20′ underwater floodplain surrounded by weak levees? No problem! We can get it cheaper, and increase profit!

    Sacramento–a city second only to New Orleans in flood vulnerability–now has development just north of its downtown in such a floodplain. It was so unsuitable for development that a $6 million penalty was a condition of a federal sewer plant grant if its capacity served any development on that floodplain. The speculators went all the way to then-vice-president George H.W. Bush to get that penalty transformed into a pay-as-you-develop fee. They also got $43 million in levee improvement money for $6 million in installments to make their floodplain 100 times more valuable development land. Of course the levee improvements funded by this grant were only to pre-Katrina standards, so current residents must figure out how to pony up several hundred million in additional levee improvements.

    Because of 1031 exchanges, the speculators do not even pay income tax on the profit from this transaction.

    Development does not have to occur this way. In Germany, the developers must sell the outlying agricultural land proposed for development to the local government, then buy it back at the upzoned price. The public gets then entire profit. … and Germany has very nice public amenities, from single-payer health care to free university tuition. I’m told the arts budget for the City of Berlin exceeds the National Endowment for the Arts for the U.S. of A.

    Finally, in addition to encouraging bad development, the convention of giving the speculators their profits, untaxed, also is an open invitation to corruption on the local level.

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