Transcript Rent, Water, and Common Property

Rent, Land, Water, and
Common Property
How is value determined for natural
resources? Prices?
Example: Grape Prices & Oaks
High grape prices in 2000 caused
conversion of oak woodland to grape
production. Why?
Who gains or loses from a increase or
decrease in grape prices?
What are the consequences for oaks of
price change in grapes?
Concepts of “rent”
Contract rent: payment by tenant for right to use
owner’s property—not the concept of rent we use here
Apartment
Economic rent: payment to a fixed factor above
competitive rate of return (payment for a good in excess
of its cost of provision)
Fertile agricultural land (costs nothing to provide)
Scarcity rent: premium accruing to a factor of production
because it is limited in supply
Willie Nelson
Well-known professors (why is Henry Yang paid so much?)
Exhaustible resources (like gold)
Quasi-rent: Short-run profits that are competed away
over time.
New Nat’l Forest policy increases logging—temporarily benefits
current loggers
What determines the value of land?
Land values have two components
“Return” from productive activities (like
growing grapes) -- rent
Speculative component – discounted value
of expected use in the future
• Eg, may expect demand for housing in 50 years
Take a closer look at rent and return
Example: “Return” to Ag Land
Have 1000 acres of land, best used for growing strawberries
Price of
Strawberries
Demand
Return to Land = RL
Marg Cost
Supply
Bushels of Strawberries
Return to land is rent – surplus accruing to factors in short supply
What determines the price of ag land?
Assume no speculative component
Price of land: PL
Annual returns to land: RL
Interest rate on similar assets: i
Arbitrage condition: iPL = RL  PL=RL/i
In other words
Typical returns to assets must equal income
land value is net present value of future returns
Example: an acre generates $100 of return
Assume 5% interest/discount rate
Land price = 100/0.05=$2,000
Back to original example of grapes
Effect of price change on oaks
3 different farms (types of land)-A, B, C
1000 acres of each type
With $1000 in inputs can produce
A: 500 bushels [cost = $2.00/bushel]
B: 400 bushels [cost = $2.50/bushel]
C: 250 bushels [cost = $4.00/bushel]
Current price $2.00/bushel
Who gains from 2x price increase?
RentB=600
$/bushel
RentC=0
RentA=1000
4.00
New Price
Farm A: gains $1000
Farm B: gains $600
Farm C: break even
Oaks (on B&C): lose
2.50
2.00
Old Price
What is the rent at the old
Price of $2 a bushel?
500
900
1150
Bushels
Observe:
All grapes sell at the same price
Better land fetches higher rents
Marginal land fetches little
Inframarginal lands garner “Ricardian
Rents”
QUESTION: If price drops, what farmer
goes out of business? Value of loss?
Value of land for housing
1. Returns to land for housing (per year)
$/acre
Price per
Year
Supply of land
Demand for housing
Acres
2. Value of asset – one acre of land =
Net Present Value of Stream of Returns from housing
(May well increase over time.)
OR
Returns today plus discounted expected value tomorrow.
Summary for land
Land is in limited supply, of different levels
of quality and in different locations (some
more convenient than others)
Land value consists of
NPV of stream of returns (e.g., strawberries or
housing services)
May contain speculative component due to
future value
The economics of water
Allocation: balance between many users and
limited resource:
Consumptive uses (residential, industrial,
agricultural)
Non-consumptive uses (fisheries, recreational,
hydro-electric power, transportation)
Water prices
Typically depend on user
Typically average cost priced (as opposed to
marginal cost priced)
Consumptive users in US
Irrigation: 39%
Thermo-electric power: 39%
Public supply: 12%
Industry: 6%
Livestock: 1%
Home: 1%
Mining: 1%
Commercial: 1%
Top 3 agricultural users
State
Acres
(‘000)
California 9,480
% flood % spray % drip
74%
19%
7%
Nebraska 7,450
47%
53%
0%
Texas
56%
43%
1%
6,310
Agricultural vs. municipal
Agricultural water heavily subsidized
Price ~ $20/AF, use 80% water in California
Marginal cost to supply ~ $1000/AF
Municipal water
Price > $300/AF
Groundwater
Largely unregulated, “open access”
resource, few property rights, difficult to
enforce pumping laws
Inefficiencies in water supply & implications
Rents go to inframarginal sources
Marg Cost
State Water
PB
Demand B
PA
Rent,
Demand A
Lake Cachuma
Demand A
Quantity of Water
Price is associated with marginal source
Average Cost Pricing – inefficient
Government agencies and regulated monopolists often required to
price to yield zero profits
Price = (Total costs)/quantity
With Avg Cost Pricing, state water (too much consumption)
With efficient pricing, no state water
Marg Cost
State Water
Average Costs
Lake Cachuma
Too much water
Demand A
Quantity of Water
Examples
What happens when parking at UCSB is
average cost priced?
Limited number of parking lot spaces
Extra spaces can only be provided with parking
garages
Hint: Marginal costs are
Lots: $100/space/year
Parking Garages: $4000/space/year
What is efficient policy?
The Central Valley Project
The CVP carries water from Northern CA
to southern CA. Water rights for CVP
water follow the land that gets the water,
not the owner (ie, not severable).
Which landowners gain from CVP?
Who gains from CVP?
Landowners that purchased property
prior to CVP gain.
Prior purchase price of land did not
“capitalize” the CVP water right.
Future price will capitalize that right.
Rent accrues to property that will obtain
rights to CVP water.
Imperial Valley/San Diego
High profile water transfer proposed from
Imperial Valley to San Diego
Imperial Valley
Desert, agricultural, poorest county in CA
Vast water rights
San Diego
One of richest, largely municipal, high
marginal value for water.
The economics of water transfer
What does economics have to say about
water transfer from agricultural uses to
municipal uses?
Allocate a fixed amount of water
between the 2 uses.
How do we know when allocation is
efficient?
Equi-marginal principle
Efficient allocation
$ (U)
San Diego willing
to pay this for 1st AF
$1000
$ (A)
Imp. Valley willing
to sell 1st AF for this
DA
$50
DU
U0
U: 0%
A: 100% A0
100%
0%
Did they reach agreement?
Different marginal values should lead to
large incentives for trade
Imperial Valley was going to sell about
5% of water allocation to San Diego at
price of around $300/AF.
Deal broke down initially (2002)
Concerns over agricultural labor & way of life
Feds intervened by cutting back IV water
Deal struck in Fall, 2003
California & the Colorado R.
7 states draw from Colorado:
Arizona, Colorado, California, New Mexico,
Utah, Wyoming, and Nevada
Dept. of Interior: CA has not lived up to
sharing & conservation obligations
Saw Imperial Valley transfer as good thing
If no deal, slash CA entitlement from 5.2
MAF/yr to 4.4 MAF/yr.
Jan 1, entitlement reduced.
Allocation by prior appropriation
Prior Appropriations: “First in time, first in
use”
Economists criticize open access systems
because they lack specified property
rights. “Prior appropriations” gives
property rights to agricultural users. Is
this an efficient way to allocate water
between 2 consumptive users?
“Prior appropriations”
Price
Urban Supply
(S-QA)
Ag users get first dibs,
consume QAg units of water
at price PAa. Urban buys QUrb
at price PUrb. PAa< PUrb so
equi-marginal principle fails.
Supply
PUrb
P*
PAg
DUrb
QUrb
DAg
QAgQ*
DTotal
Water