Monday, 28 July 2014

More Ricardo. Is London really that expensive?

From today's Metro "Want to be in London? Pay twice the rent"

"While Londoners typically benefit from higher average incomes than the rest of the UK, affordability is being squeezed," said Martin Totty, chief executive of Barbon Insurance. "For rental property to be affordable, a tenants gross income must be at least two and a half times his or her annual rent. Our data shows that rents in London have pushed beyond that."

Is this really an accurate description of affordability?

If Ricardo's Law of Rent is true, we'd expect the amount of income left after taxes and rent has been paid to be roughly equal. This is what we get.

Greater London £8,382, East Anglia £9,991, Wales £9,273, South West £6,927, South East £9,945, West Midlands £8,178, North West £8,167, Yorks & Humberside £8,009, N Ireland £9,142, East Midlands £8,762, North East £9,125, Scotland £9,278

Given that we are using average wage to average rent ratio, we shouldn't be too surprised about the unevenness. If the survey had used mean wages and rents, this might have looked at lot flatter.

But the point is, discretionary income is a much better measure of affordability. In which case, London certainly isn't the worst. I'm also guessing London gets the lion's share of Housing Benefit, which makes it look more unaffordable than it is, under our current tax system.

Let's see what happens to those figures under a Land Value Tax, even assuming the tenant pays the LVT charge. A tenant on average wages in London would be £10,190 better off in their pocket, and one in Scotland would be £5,600 better off.

So not a tax on London then.


Mark Wadsworth said...

"So not a tax on London then."

Hehe good one.

mombers said...

A tax on London landowners, who are substantially less than half the population, and on a value weighted basis, a tiny minority.

Dinero said...

I guess its tricky to apply Ricardos law of rent to residential properties, its genesis was agricultural land.
With residential space Cash income is not the only "income" in the equation - there is also the standard of living.
As an illustation of Ricardos law of rent you may get a better fit looking at buisinesses and their location instead, rent , Buisiness rates and Turnover

Dinero said...
This comment has been removed by the author.
Dinero said...

The figures you have for income left after taxes and rent have been paid do look pretty close

Mark Wadsworth said...

Din: "its genesis was agricultural land"

No exactly not!

Adam Smith and Ricardo were both talking about urban land rents, for some reason farm land is used as an example but this is misleading.

I've done similar calculations for residential many a time and net incomes of tenants, after tax and housing costs is more or less flat across the whole country.

The Daily Mail often publishes research on house prices and wages and they say exactly the same thing.

(I could do the calculations for commercial but this is much trickier).

London often seems to come out worse, but the headline rent is misleading, as tenants in London are far more likely to share a house or flat, so rent per person is not quite as high as the figures suggest.

Dinero said...

Right Thanks,

Also ,looking at the income left after taxes and rent have been paid for Scotland, Wales , East Anglia , North East etc and London
People like living in London because of the amenaties and so maybe they are willing to forgo that amount of the income.

DBC Reed said...

My impression was that Ricardo was talking about agricultural land, specifically soil fertility which would not increase with the proximity of a cluster of people as in urban situation. In fact so strong is the soil fertility component I have always hesitated to call what we talk about Ricardo's Law.

Ben Jamin' said...

Unimproved soil fertility doesn't change merely by the act of possessing it. It's value is down to chemical endowment and the ability to exclude others from it.

Unimproved value of location doesn't change by mere possession either. It's value comes, from among other things, the number and proximity of people wishing to occupy it, and the ability to exclude them.

So, there is no conceptual difference. All that is natural and unimproved is land. So Ricardo's Law is equally applicable.

Ben Jamin' said...

@ Din

"The figures you have for income left after taxes and rent have been paid do look pretty close"

They'd be more accurate if mean values were used instead of averages.

As you can see, the South West is an outlier. Wages are poor there. But they do have some nice real estate, that I dare say attracts a lot of outside interest, pushing up the rental average higher than wages.

Could be the same for London too.

But then, it's probably quite tricky getting accurate stats for mean wages/rents too.

But, I think even using the table supplied in Metro, the conclusions we can draw are clear.

Landowners syphon off the productive surplus between different locations. It does not go in higher discretionary income.

Steven_L said...

Outside of London you generally need a car to work. Inside of London you don't.

If I was investigating a move to London I would certainly take this into account.

Mark Wadsworth said...

SL, good point. You can get an annual Oystercard and travel 24 hrs a day, 364 days a year for under £2,000.

That's a saving of £x,000 over having to run a car (-> higher rents) and those few thousand quid might explain the apparent difference.

Bayard said...

"As you can see, the South West is an outlier."

Could that be down to full-time tenants having to compete against holiday lets?

DBC Reed said...

Not convinced about Ricardo see Dinero above (he's right: the applicability is tricky )
The best land in Ricardo's formulation is the most fertile and is unaffected by population : it might be out west in Canada for wheat.So not the way we see things.
Also all that business of "the margin of production" whereby values are fixed by comparison with the yield from free land ? What free land?
In your account the number and proximity of people is significant .But these will not affect the soil fertility which Ricardo banged on about.

Anonyman said...

"If the survey had used mean wages and rents, this might have looked at lot flatter."

"They'd be more accurate if mean values were used instead of averages."


The mean is usually what people mean when they are talking about averages.

Are you sure that you don't mean the median?

Ben Jamin' said...

@ Anon.

Yes, median is what I meant. Thanks.

Ben Jamin' said...

@ DBC Reed.

I never said population size/density affects soil fertility. And yes, there is "free" land in the UK.

The best way for you to understand is to watch this. BBC's the code. Skip to 52.10.

Given you need a location to reside and do business, who do you think is at the top of the food chain when it comes to first dips from that productive surplus?

Mark calls it a ransom fee.

Now, given the size differences between cities, it's of no surprise that demand for location in London is higher is it? We all want some of that 15% action don't we?

And we know landlords set their rent, not on cost, but by what the tenant can afford to pay.

So, the bit left over, is the bare minimum people on average wages will except in return for access to the 15% bonus.

ie discretionary income, which is pretty flat, as Ricardo's Law says it would be.

Mark Wadsworth said...

B: "Could that be down to full-time tenants having to compete against holiday lets?"

Yes, I did the numbers a while ago, prices relative to earnings are higher in areas with nice landscape. Hardly surprising, is it?

DBC, seriously, Ricardo was not talking about farm land. He and Adam Smith were talking about urban land, they knew perfectly well even then that the rental value of urban land was a hundred times as high as farm land.

So relative to most urban land, there is plenty of marginal land in the UK which is to all intents and purposes "free". You can buy houses in high unemployment areas for less than their rebuild cost, you can buy even the most expensive farmland for £2 per square yard or something.

Imagine you could buy a nice big plot to build your home on for £1,000? That's hardly a "housing crises" is it?

DBC Reed said...

Thanks a lot ;have just had to wade through Ricardo (on rent) Chap 2 of Principles of Political Economy which has narry a mention of urban land in its 28 numbered paragraphs and is still talking about farms at the end, as it is at the beginning when it starts four-square irrelevant:" Rent is that portion of the produce of the earth which is paid to the landlord for the use of the original powers of the soil."
Marx in Das Capital is more to the point in the chapter neatly entitled "Transformation of surplus profit into ground rent" which describes "the extent that a portion of the surplus value produced by the industrial capitalist falls into the hands of the landowner" before Marx does his usual number of settling scores with contemporary numpties and only occasionally keeping his theme going" evidently the wages of the tenant himself and still more of the labourers suffer a deduction for ground rent".
It seems to me we should be talking about Marx's law of rent but as we are living in extreme right wing times, it might be tactful to just refer to an anonymous Law of Rent: any surplus profit/income is taken by ground rent/landowners.

Mark Wadsworth said...

DBC, yes, fair points. Let us just call it "the law of rent" because nobody invented it, it is just there for all to see, a child of ten could work it out.

DBC Reed said...

Agreed. I sat through an hour long session by a well-known land taxer wherein he described Ricardo's ideas very accurately -and completely lost, more likely alienated, the audience.
Perhaps though its obvious to us, the agricultural side issues made the real Law of Rent over- complicated for the nineteenth century types.Marx makes very heavy weather of the chapter in Capital after having summed it up perfectly in the chapter heading.

DBC Reed said...

On second thoughts ,perhaps we should nip in and devise our own definition of the Law of Rent on the principle that controlling the language means you control the argument. Would suggest: "the law of rent states that rent and land prices rise to take any long-term increases in profits, wages and the cheap money in government demand stimuli ."