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House prices, development costs, and the value of waiting

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  • Guthrie, Graeme

Abstract

This paper demonstrates that new house prices can exceed direct development costs by considerable margins in competitive housing markets with finite price-elasticities of demand and no restrictive land-use regulation. The premium reflects the value of the option to delay developing the marginal piece of undeveloped land. Competition amongst landowners reduces the option value relative to the standard open-city framework, but--as long as undeveloped land is heterogeneous--does not reduce it to zero. Calibrating a special case of the model to US data suggests that the premium is economically significant. In addition to proving that prices can exceed costs without regulation, this paper shows that the relationship between volatility and the rate of investment is more complicated than previously thought.

Suggested Citation

  • Guthrie, Graeme, 2010. "House prices, development costs, and the value of waiting," Journal of Urban Economics, Elsevier, vol. 68(1), pages 56-71, July.
  • Handle: RePEc:eee:juecon:v:68:y:2010:i:1:p:56-71
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    1. repec:kap:jrefec:v:55:y:2017:i:1:d:10.1007_s11146-016-9560-5 is not listed on IDEAS
    2. Guthrie, Graeme, 2012. "Regulated prices and real options," Telecommunications Policy, Elsevier, vol. 36(8), pages 650-663.
    3. Graeme Guthrie, 2014. "Real Options And The Cross-Section Of Expected Stock Returns," Journal of Economic Surveys, Wiley Blackwell, vol. 28(2), pages 265-283, April.
    4. Guthrie, Graeme, 2012. "Uncertainty and the trade-off between scale and flexibility in investment," Journal of Economic Dynamics and Control, Elsevier, vol. 36(11), pages 1718-1728.
    5. Rosenthal, Stuart S. & Ross, Stephen L., 2015. "Change and Persistence in the Economic Status of Neighborhoods and Cities," Handbook of Regional and Urban Economics, Elsevier.
    6. Damrongsak Rinchumphu & Chris Eves & Connie Susilawati, 2013. "Brand Value of Property in Bangkok Metropolitan Region (BMR), Thailand," International Real Estate Review, Asian Real Estate Society, vol. 16(3), pages 296-322.
    7. McMillen, Daniel & O’Sullivan, Arthur, 2013. "Option value and the price of teardown properties," Journal of Urban Economics, Elsevier, vol. 74(C), pages 71-82.

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