12.6: Land

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Land is an input used in production, though is not a capital good in the way we defined capital goods earlier – production inputs that are themselves produced in the economy. Land is relatively fixed in supply to the economy, even in the long run. While this may not be literally true – the Netherlands reclaimed from the sea a great quantity of low-lying farmland, and fertilizers can turn marginal land into fertile land – it is a good approximation to reality. Figure 12.6 shows the derived demand D₀ for land services. With a fixed supply S, the equilibrium rental is R₀.

Figure 12.6 The market for land services

The supply of land is relatively fixed, and therefore the return to land is primarily demand determined. Shifts in demand give rise to differences in returns.

In contrast to this economy-wide perspective, consider now a retailer who rents space in a commercial mall. The area around the mall experiences a surge in development and more people are shopping and doing business there. The retailer finds that she sells more, but also finds that her rent increases on account of the additional demand for space by commercial enterprises in the area. Her landlord is able to charge a higher rent because so many potential clients wish to rent space in the area. Consequently, despite the additional commerce in the area, the retailer's profit increase will be moderated by the higher rents she must pay: The demand for retail space is a derived demand. The situation can be explained with reference to Figure 12.6 again. On account of growth in this area, the demand for retail space shifts from to . Space in the area is restricted, and thus the vertical supply curve describes the supply side well. So with little or no possibility of higher prices bringing forth additional supply, the additional demand makes for a steep price (rent) increase.

Land has many uses and the returns to land must reflect this. Land in downtown Vancouver is priced higher than land in rural Saskatchewan. Land cannot be moved from the latter to the former location however, and therefore the rent differences represent an equilibrium. In contrast, land in downtown Winnipeg that is used for a parking lot may not be able to compete with the use of that land for office development. Therefore, for it to remain as a parking lot, the rental must reflect its high opportunity cost. This explains why parking fees in big US cities such as Boston or New York may run to $40 per day. If the parking owners could not obtain this fee, they could profitably sell the land to a developer. Ultimately it is the value in its most productive use that determines the price of land.