Irreversible investment under predictable growth: why land stays vacant when housing demand is booming. (English) Zbl 1539.91138
Abstract: The article “Irreversible investment under predictable growth: Why land stays vacant when housing demand is booming” by Rutger-Jan Lange and Coen N. Teulings, presents a novel theoretical model that addresses the conundrum of land vacancy in the face of high housing demand. This review article summarizes the authors’ approach, key findings, and policy implications, emphasizing the significance of their contribution to economic theory and suggesting areas for future research.
Introduction: The paradox of vacant land amidst booming housing markets has long puzzled economists and policymakers. Lange and Teulings’ article provides a unique perspective on this issue by investigating the roles of irreversible investment and predictable growth in landowners’ decision-making processes.
Theoretical Model: Lange and Teulings develop a dynamic, stochastic model that incorporates irreversible investment, predictable growth, and land vacancy. The model is predicated on the notion that landowners can optimally time their investments in land development, considering future growth prospects and the irreversibility of their investments. The authors show that anticipating future growth incentivizes landowners to postpone development, even in the presence of strong housing demand. This effect is compounded by the irreversibility of investment decisions.
Main Findings: Lange and Teulings’ primary contribution lies in their ability to provide a theoretically sound explanation for the phenomenon of land vacancy in thriving housing markets. Their model demonstrates that the interplay between irreversible investment and predictable growth can lead landowners to strategically delay development to maximize future returns. This finding has crucial implications for understanding urban land market dynamics and the factors contributing to vacant land persistence.
Implications for Policy and Urban Planning: The insights offered by Lange and Teulings’ model have significant ramifications for housing policy design and urban planning strategies. By highlighting the roles of predictable growth and irreversible investment in landowners’ decision-making, the authors underscore the importance of addressing these factors when tackling issues related to land vacancy and housing shortages. This may entail implementing policy measures that incentivize landowners to invest in development or adopting urban planning strategies that promote more efficient land use.
Conclusion and Future Research: Lange and Teulings’ article makes a substantial contribution to economic theory by proposing a new explanation for the persistence of vacant land in booming housing markets. Their work lays the groundwork for future research exploring the empirical validity of the model, the influence of policy interventions on landowners’ decisions, and the potential impact of technological advancements on irreversible investment and predictable growth dynamics. As urbanization continues to define the global landscape, understanding the drivers of land vacancy and housing demand will be critical in devising effective policies and sustainable urban planning strategies.
Introduction: The paradox of vacant land amidst booming housing markets has long puzzled economists and policymakers. Lange and Teulings’ article provides a unique perspective on this issue by investigating the roles of irreversible investment and predictable growth in landowners’ decision-making processes.
Theoretical Model: Lange and Teulings develop a dynamic, stochastic model that incorporates irreversible investment, predictable growth, and land vacancy. The model is predicated on the notion that landowners can optimally time their investments in land development, considering future growth prospects and the irreversibility of their investments. The authors show that anticipating future growth incentivizes landowners to postpone development, even in the presence of strong housing demand. This effect is compounded by the irreversibility of investment decisions.
Main Findings: Lange and Teulings’ primary contribution lies in their ability to provide a theoretically sound explanation for the phenomenon of land vacancy in thriving housing markets. Their model demonstrates that the interplay between irreversible investment and predictable growth can lead landowners to strategically delay development to maximize future returns. This finding has crucial implications for understanding urban land market dynamics and the factors contributing to vacant land persistence.
Implications for Policy and Urban Planning: The insights offered by Lange and Teulings’ model have significant ramifications for housing policy design and urban planning strategies. By highlighting the roles of predictable growth and irreversible investment in landowners’ decision-making, the authors underscore the importance of addressing these factors when tackling issues related to land vacancy and housing shortages. This may entail implementing policy measures that incentivize landowners to invest in development or adopting urban planning strategies that promote more efficient land use.
Conclusion and Future Research: Lange and Teulings’ article makes a substantial contribution to economic theory by proposing a new explanation for the persistence of vacant land in booming housing markets. Their work lays the groundwork for future research exploring the empirical validity of the model, the influence of policy interventions on landowners’ decisions, and the potential impact of technological advancements on irreversible investment and predictable growth dynamics. As urbanization continues to define the global landscape, understanding the drivers of land vacancy and housing demand will be critical in devising effective policies and sustainable urban planning strategies.
Reviewer: Matthias M. M. Buehlmaier (Hong Kong)
MSC:
| 91G50 | Corporate finance (dividends, real options, etc.) |
| 60G40 | Stopping times; optimal stopping problems; gambling theory |
| 91D10 | Models of societies, social and urban evolution |
References:
| [1] | Abel, A. B.; Eberly, J. C., Optimal investment with costly reversibility. Rev. Econ. Stud., 581-593 (1996) · Zbl 0864.90011 |
| [2] | Ahlfeldt, G. M.; Redding, S. J.; Sturm, D. M.; Wolf, N., The economics of density: evidence from the Berlin Wall. Econometrica, 2127-2189 (2015) · Zbl 1419.91541 |
| [3] | Albouy, D.; Ehrlich, G.; Shin, M., Metropolitan land values. Rev. Econ. Stat., 454-466 (2018) |
| [4] | Amaral, F.; Dohmen, M.; Kohl, S.; Schularick, M., Superstar returns (2021), CEPR Discussion Paper No. DP16806 |
| [5] | Andersen, L.; Broadie, M., Primal-dual simulation algorithm for pricing multidimensional American options. Manag. Sci., 1222-1234 (2004) |
| [6] | Arnott, R. J.; Lewis, F. D., The transition of land to urban use. J. Polit. Econ., 161-169 (1979) |
| [7] | Bally, V.; Printems, J., A quantization tree method for pricing and hedging multidimensional American options. Math. Finance, 119-168 (2005) · Zbl 1127.91023 |
| [8] | Balter, A. G.; Huisman, K. J.; Kort, P. M., New insights in capacity investment under uncertainty. J. Econ. Dyn. Control (2022) · Zbl 1517.91267 |
| [9] | Bazaraa, M. S.; Sherali, H. D.; Shetty, C. M., Nonlinear Programming: Theory and Algorithms (2013), John Wiley & Sons |
| [10] | Bertola, G.; Caballero, R. J., Irreversibility and aggregate investment. Rev. Econ. Stud., 223-246 (1994) · Zbl 0805.90005 |
| [11] | Bloom, N.; Floetotto, M.; Jaimovich, N.; Saporta-Eksten, I.; Terry, S. J., Really uncertain business cycles. Econometrica, 1031-1065 (2018) · Zbl 1411.91390 |
| [12] | Boppart, T.; Krusell, P.; Mitman, K., Exploiting MIT shocks in heterogeneous-agent economies: the impulse response as a numerical derivative. J. Econ. Dyn. Control, 68-92 (2018) · Zbl 1401.91457 |
| [13] | Campbell, J. Y.; Shiller, R. J., The dividend-price ratio and expectations of future dividends and discount factors. Rev. Financ. Stud., 195-228 (1988) |
| [14] | Campbell, S. D.; Davis, M. A.; Gallin, J.; Martin, R. F., What moves housing markets: a variance decomposition of the rent-price ratio. J. Urban Econ., 90-102 (2009) |
| [15] | Capozza, D.; Li, Y., The intensity and timing of investment: the case of land. Am. Econ. Rev., 889-904 (1994) |
| [16] | Capozza, D. R.; Helsley, R. W., The fundamentals of land prices and urban growth. J. Urban Econ., 295-306 (1989) |
| [17] | Chan, L. K.; Karceski, J.; Lakonishok, J., The level and persistence of growth rates. J. Finance, 643-684 (2003) |
| [18] | Chen, H., Do cash flows of growth stocks really grow faster?. J. Finance, 2279-2330 (2017) |
| [19] | Chen, H.; Dou, W. W.; Guo, H.; Ji, Y., Feedback and contagion through distressed competition (2023), National Bureau of Economic Research, Technical report |
| [20] | Combes, P.-P.; Duranton, G.; Gobillon, L., The costs of agglomeration: house and land prices in French cities. Rev. Econ. Stud., 1556-1589 (2019) · Zbl 1508.91389 |
| [21] | Compernolle, T.; Huisman, K. J.; Kort, P. M.; Lavrutich, M.; Nunes, C.; Thijssen, J. J., Investment decisions with two-factor uncertainty. J. Financ. Risk Manag., 534 (2021) |
| [22] | Cottle, R. W.; Pang, J.-S.; Stone, R. E., The Linear Complementarity Problem (2009), Society for Industrial and Applied Mathematics · Zbl 1192.90001 |
| [23] | Davis, M. A.; Fisher, J. D.; Whited, T. M., Macroeconomic implications of agglomeration. Econometrica, 731-764 (2014) · Zbl 1457.91251 |
| [24] | Davis, M. A.; Larson, W. D.; Oliner, S. D.; Shui, J., The price of residential land for counties, ZIP codes, and census tracts in the United States. J. Monet. Econ., 413-431 (2021) |
| [25] | DeMarzo, P. M.; Fishman, M. J.; He, Z.; Wang, N., Dynamic agency and the q theory of investment. J. Finance, 2295-2340 (2012) |
| [26] | Desmet, K.; Rappaport, J., The settlement of the United States, 1800-2000: the long transition towards Gibrat’s law. J. Urban Econ., 50-68 (2017) |
| [27] | Dixit, A., Choosing among alternative discrete investment projects under uncertainty. Econ. Lett., 265-268 (1993) · Zbl 0800.90004 |
| [28] | Dixit, A. K.; Pindyck, R. S., Investment Under Uncertainty (1994), Princeton University Press |
| [29] | Duranton, G.; Puga, D., Urban growth and its aggregate implications. Econometrica, 2219-2259 (2023) · Zbl 1541.91166 |
| [30] | Eichholtz, P.; Korevaar, M.; Lindenthal, T.; Tallec, R., The total return and risk to residential real estate. Rev. Financ. Stud., 3608-3646 (2021) |
| [31] | Fairchild, J.; Ma, J.; Wu, S., Understanding housing market volatility. J. Money Credit Bank., 1309-1337 (2015) |
| [32] | Foo Sing, T., Optimal timing of a real estate development under uncertainty. J. Prop. Inves. Fin., 35-52 (2001) |
| [33] | Geltner, D., On the use of the financial option price model to value and explain vacant urban land. Real Estate Econ., 142-158 (1989) |
| [34] | Glaeser, E. L.; Gyourko, J., Urban decline and durable housing. J. Polit. Econ., 345-375 (2005) |
| [35] | Glaeser, E. L.; Gyourko, J.; Saks, R. E., Why have housing prices gone up?. Am. Econ. Rev., 329-333 (2005) |
| [36] | Glaeser, E. L.; Ward, B. A., The causes and consequences of land use regulation: evidence from Greater Boston. J. Urban Econ., 265-278 (2009) |
| [37] | Gordon, M. J.; Shapiro, E., Capital equipment analysis: the required rate of profit. Manag. Sci., 102-110 (1956) |
| [38] | Grenadier, S. R., The strategic exercise of options: development cascades and overbuilding in real estate markets. J. Finance, 1653-1679 (1996) |
| [39] | Gyourko, J.; Mayer, C.; Sinai, T., Superstar cities. Am. Econ. J.: Econ. Policy, 167-199 (2013) |
| [40] | Hilber, C. A.; Mense, A., Why have house prices risen so much more than rents in superstar cities? (2021), Centre for Economic Performance, LSE, Technical report |
| [41] | Huisman, K. J.; Kort, P. M., Strategic capacity investment under uncertainty. Rand J. Econ., 376-408 (2015) |
| [42] | Jordà, Ò.; Knoll, K.; Kuvshinov, D.; Schularick, M.; Taylor, A. M., The rate of return on everything, 1870-2015. Q. J. Econ., 1225-1298 (2019) · Zbl 1482.91136 |
| [43] | Kakhbod, A.; Reppen, A. M.; Umar, T.; Xing, H., The Cash-Cap Model: A Two-State Model of Firm Dynamics (2021), Available at SSRN 4079159 |
| [44] | Lange, R.-J.; Ralph, D.; Støre, K., Real-option valuation in multiple dimensions using Poisson optional stopping times. J. Financ. Quant. Anal., 653-677 (2020) |
| [45] | Lucas, R. E.; Rossi-Hansberg, E., On the internal structure of cities. Econometrica, 1445-1476 (2002) · Zbl 1141.91659 |
| [46] | Mamon, R. S., Three ways to solve for bond prices in the Vasicek model. J. Appl. Math. Decis. Sci., 1-14 (2004) · Zbl 1123.91027 |
| [47] | Merton, R. C., Applications of option-pricing theory: twenty-five years later. Am. Econ. Rev., 323-349 (1998) |
| [48] | Moscarini, G.; Smith, L., The optimal level of experimentation. Econometrica, 1629-1644 (2001) · Zbl 1019.91039 |
| [49] | Murray, C. K., Time is money: how landbanking constrains housing supply. J. Hous. Econ. (2020) |
| [50] | Øksendal, B., Stochastic Differential Equations (2007), Springer |
| [51] | Øksendal, B.; Sulem, A., Stochastic Control of Jump Diffusions (2005), Springer · Zbl 1140.93496 |
| [52] | Peng, L., The risk and return of commercial real estate: a property level analysis. Real Estate Econ., 555-583 (2016) |
| [53] | Peskir, G.; Shiryaev, A., Optimal Stopping and Free-Boundary Problems (2006), Birkhäuser · Zbl 1115.60001 |
| [54] | Quigg, L., Empirical testing of real option-pricing models. J. Finance, 621-640 (1993) |
| [55] | Rogers, L. C., Monte Carlo valuation of American options. Math. Finance, 271-286 (2002) · Zbl 1029.91036 |
| [56] | Schäfer, U., A linear complementarity problem with a P-matrix. SIAM Rev., 189-201 (2004) · Zbl 1133.90402 |
| [57] | Sinai, T.; Souleles, N. S., Owner-occupied housing as a hedge against rent risk. Q. J. Econ., 763-789 (2005) |
| [58] | Smith, V. K., A bound for option value. Land Econ., 292-296 (1984) |
| [59] | Strulovici, B.; Szydlowski, M., On the smoothness of value functions and the existence of optimal strategies in diffusion models. J. Econ. Theory, 1016-1055 (2015) · Zbl 1330.91137 |
| [60] | Titman, S., Urban land prices under uncertainty. Am. Econ. Rev., 505-514 (1985) |
| [61] | Vasicek, O., An equilibrium characterization of the term structure. J. Financ. Econ., 177-188 (1977) · Zbl 1372.91113 |
| [62] | Williams, J. T., Equilibrium and options on real assets. Rev. Financ. Stud., 825-850 (1993) |
This reference list is based on information provided by the publisher or from digital mathematics libraries. Its items are heuristically matched to zbMATH identifiers and may contain data conversion errors. In some cases that data have been complemented/enhanced by data from zbMATH Open. This attempts to reflect the references listed in the original paper as accurately as possible without claiming completeness or a perfect matching.
