The Effect of Environmental Constraints on Land Prices

The value of land is an important component of any farming business. Often it is the largest balance sheet item, a key determinant of farm ownership, and a key factor in the level of debt a farming business incurs. There are three fundamental drivers of land value: (i) Productive value; the value relative to the rent, or profits, obtainable from the land; (ii) Consumptive value; this includes amenity factors such as recreational opportunities and scenery, plus intangibles such as the countryside is a nice place to live, a great place to bring up children, you’re your own boss, and farming is a great lifestyle; and (iii) Speculative value; the ability of an asset to retain its value/the return on the asset as an investment In addition there is a lesser fourth component; transactional factors, which may affect the price on the day. These include forced sales and family transactions. Of the above, it could be expected that the Productive component has the biggest impact. Analysis of dairy and sheep & beef income and land prices in New Zealand shows that over the last two decades farm profitability has only a moderate relationship with dairy land, and almost no relationship with sheep & beef land – the latter being driven more by dairy profitability and payouts. Consumptive value appears to have a significant effect on land values, but it is difficult to quantify this due to the variability and individuality of the impact. New Zealand farmers would appear to be ready to accept relatively low cash returns from their farming business, in return for the assumption that they will be compensated by good capital gains in land value – an assumption that has proven largely correct over the last 3 decades, although not as much since 2008. In this respect the speculative component of land value has also been high. Across New Zealand, there is now a concerted effort to reduce the environmental footprint of farming. This is largely around reducing diffuse contaminant discharges of nitrogen, phosphorous, sediment, and microbes, to water. This will impact (or has impacted) on farming in two ways; (i) By increasing costs/decreasing profitability, which affects the productive component of land value, and (ii) By significantly reducing the opportunity to intensify production, both in-situ, and via land use change, which affects the speculative component of land value. Potentially, an environmental improvement may result in an increased consumptive value, helping to offset the productive/speculative effect. Again this is difficult to quantify generically as it would depend on the individual circumstances. For example a small improvement in a river or lake (which was already swimmable/fishable) may 5 | P a g e have limited impact, whereas a large improvement (from non-swimmable/fishable to swimmable/fishable) may result in a significant lift in the consumptive value. Given the complexity of the interactions between the factors affecting land value, it is difficult to readily quantify the degree to which environmental constraints will impact on land value, but the probability of an adverse impact is very high. The limited data to date, from catchments affected by constraints, would support this. On the assumption that dairying is (currently) the best/highest use for pastoral farming, then dairy land values will be mostly impacted by constraints that affect profitability. Proportionally, however, the effect on forestry, under-developed land, and sheep & beef land values is likely to be higher, due to a combination of profitability effects, but especially so due to the second effect noted; the reduced ability for land use change. In a number of catchments under consideration of constraints on contaminant discharges, the modelling used has assumed some degree of “reverse” land use change in order to meet the new limits. If this occurs, one could expect the process to be very sticky, and the (adverse) impact on land values could be severe. At a national level, the implication of the impact of environmental constraints on land values is that the credit risk of farming, and the credit risk of banks, would be significantly increased, although this would be a transitional effect – it would be current landowners that would bear the brunt of this impact, before a new equilibrium was reached.