Exploring the Effects of Property Rights Using Game Simulation

Chapter 2
Exploring the Effects of Property Rights Using Game Simulation

Esther Geuting and Barrie Needham

How the land in a particular location is developed depends on the laws, including the property rights, applicable there. We call this the ‘local regime of land laws’, and it includes all the rights connected to the land, the distribution of those rights, and the way in which those rights may be enforced. This chapter investigates how possible changes to those laws might affect what is built. But how can the effects of a hypothetical ‘local regime of land laws’ be investigated?

This question is interesting and important for planners, because if the local regime of land laws can affect development, then changing that regime can be purposefully used as a way of achieving the goals of land-use planning. And in that way, planners can expand their ‘tool chest’. In this chapter we investigate a particular way of changing that local regime, namely creating new property rights which can be traded. Using that as an instrument for land-use planning we call ‘structuring the market’, deliberately changing the way in which the market for property development works. This is not ‘more market’ or ‘less market’, but creating a different market, that is a market which works in a different way and produces different results.

The question remains: if this is an important question, it needs to be investigated, but how? In practice, laws cannot easily be changed, as an experiment to see what the effects would be. This contribution puts forward two other ways of carrying out this investigation, in the laboratory as it were, namely with ‘thought experiments’ and with game simulations. Each can be used separately, but in the research reported here they were used in combination. These research methods have been applied in practice, and the results are presented here, together with an evaluation of the experience with those two research methods.

The reasons for choosing these methods, and how they are applied, are described in more detail below. They produce a rich supply of empirical results. It must be said however that those results are insufficiently valid or reliable for taking the political decision: the market should actually be restructured in a particular way. Nevertheless, the methods are a fairly efficient way of coming to a judgment, in the early stages of considering a change in policy or legislation, about whether a particular change deserves to be investigated more deeply, by for example a pilot or an experimental law.

The Hypotheses

We expected that changing the local regime of land laws so as to structure the market differently would affect the market for property development as follows:

• it would change the way in which property rights were exercised;

• that would give rise to new markets and constellations of sub-markets in property rights;

• that would influence the way in which market actors (both public and private) structure the process of property development;

• which would influence the end result, the new development.

These hypotheses were tested by applying the two research methods to three cases, in each of which the local regime of land laws was changed. Each of those cases was derived from a topical discussion in the Netherlands about how to improve property development by changing the legislation in a particular way.

The Three Cases

Case 1: Creating a New Property Right, Namely the Right to Develop Land, a Right which is Separable from the Right to Own Land.

This has been suggested as a way of increasing the competition between property developers in the local housing market. At this moment, the competition can be very small, resulting – it is suggested – in commercial housing developers offering a poor value for money. (This is the case not only in the Netherlands, but in England too – see Barker 2004.) This problem was noted in a government report (‘Nota grondbeleid’, VROM 2001). Within a local housing market, only a few housing developers are active and developers try to acquire development sites at an early stage, as a way of excluding competitors.1 If that competition is limited, in particular within one segment of the housing market (for example new owner-occupied housing in a particular price range), we can speak of a local monopoly or oligopoly. The case investigated here was whether the competition could be increased, and what the effects would be, if the law were to be changed so that a development right could be compulsorily split off from the right of ownership, whereby that right could be traded under certain conditions. A development right is a sort of ground lease, and what is investigated here is the possibility that the owner of the freehold right can be obliged to sell that ground lease. Such a recognition of a separate ‘right to develop’ could have practical effects similar to the nationalization of development rights carried out in England and Wales in 1947 (Booth 2002), although the legal basis would be totally different.

This case is an example of the market being changed directly, by introducing a new property right. In the following two cases, the planning law (public law) would be changed, which – it was expected – would then lead to changes in the way the market worked.

Case 2: The Redevelopment of Post-War Housing Estates by Introducing Transferable Development Rights.

Some housing estates built shortly after the Second World War are in need of redevelopment. But that is proving to be very difficult. It is not only that redevelopment itself is very expensive, but also that redevelopment usually results in less housing (certainly, in less housing floor space). This problem was signalled in two national reports: ‘Tijd voor keuzes’ (VROM-raad 2007) and ‘Grond voor kwaliteit’ (VROM-raad 2009). There is a change in the market structure which might help, namely creating saleable rights which could be exchanged between redevelopment areas and greenfield sites. This could be done by introducing contracts which could be entered into voluntarily between developers on the two sorts of development locations. Those contracts would become attractive by a change in planning law, whereby within the limits of the planning area (consisting of the redevelopment area and the greenfield sites) the saleable rights are the only available development rights in the market.

This is a form of market structuring which has already taken place in the United States and many other countries, in the form of transferable development rights (see Pruetz 2005 for a survey). The research that has been carried out in the Netherlands into this possibility so far has paid little attention to the economic effects and the consequences for the actions of market actors. And possible applications to property development have hardly been investigated, apart from the ‘red for green rule’ in Limburg (Provincie Limburg 2008).

Case 3: Land Readjustment as a Way of Reducing the Effects of Fragmentation of Land Ownership on Development Locations.

If land ownership is very fragmented, it can be very difficult if not impossible for private developers to carry out the development (Buitelaar 2008; VROM-raad 2009). In such situations in the Netherlands, it is the practice that municipalities themselves acquire all the land and other property, and then make the site suitable for building (changing the boundaries of the land parcels, putting in new infrastructure, etc.), and then sell the new building plots to private developers. This is, however, very expensive and involves the municipality in a huge financial risk. In this case, we investigate the possibilities for making such development sites profitable without municipalities first taking the land into ownership. This would require a form of urban land re-adjustment. The case investigated here is a change in planning law (public law) which would then stimulate the creation of readjustment rights which could be traded privately.

This has been possible in Germany for more than a hundred years, and there it is one of the most important instruments for urban development. It has been considered in the Netherlands since the 1940s. After the Second World War, that was for the rebuilding of housing and town centres destroyed by bombing (and it was used for the reconstruction of the centre of Rotterdam). In the 1970s and 1980s, land readjustment was to make urban renewal easier and quicker (De Haan 1985; Van der Putten et al. 2004; Needham 2007). In the government report ‘Nota grondbeleid’ (VROM 2001) the possibility was mentioned of creating temporary land banks in redevelopment areas, as a way of stimulating land readjustment and redevelopment, and more recently the ministry has been considering this.

In all three cases, the necessary law does not exist and is it not expected that it will be created, certainly not in the short term. Nevertheless, the problems are widely recognized, as are the possible legal changes which we investigate, and they are recognized not only by public bodies but also by the commercial parties active in property development. The cases are investigated in order to illustrate the possibilities of ‘market structuring’ as a policy instrument in land-use planning, and as a way of investigating those possibilities using thought experiments and game simulations.

Thought-experiments as a Research Method

The thought-experiments try to answer the question: what would be the probable effects of a certain law or a certain change in the law? That answer can, in principle, be tested in practice, but only if the law has, indeed, that content. The method followed here is to create an imaginary situation, very carefully specified, whereby the local regime of land law is changed in a particular way; to reason through the possible consequences (what-if scenarios); and to ask experts to comment on those scenario’s. Those experts were lawyers, land developers and academics. When predicting the reactions to the new law, a distinction was made between the reactions of:

• the property developer;

• the builder;

• the investor in land and property;

• the housing association;

• the first owner of the development land, or the supplier if that were different;

• the municipality.

All those actors are involved when new housing is built.

This method was followed by Needham and Geuting (2006) in order to predict the effects of abolishing the automatic right of the owner of land with planning permission to develop his land, a possibility which was being investigated by the parliament at that moment. It is based on ideas from law and economics: using economic theories, the consequences are predicted and/or evaluated of a particular legal decision, a series of decisions, or a legal ruling (Teijl and Holzhauer 1995: 318). The method of thought-experiments falls within the ‘positive theoretical approach’ of law and economics. This aims for an objective explanation (better: an inter-subjective explanation, one that is shared by a large number of persons) of the law (Teijl and Holzhauer op. cit.: 317).

When applying thought-experiments for this research, use was made of economic theories such as developed in law and economics. Cooter and Ulen (2001) and Posner (1993) give more information about the practical application of economic theories to legal questions. Harvey (1987) did something like that many years ago, applied to questions of real estate. That application of theories was complemented with knowledge, gained from many years consultancy practice in the world of real estate, about how market actors behave, and with the reactions of consulted experts.

Game Simulation as a Research Method

It was decided to complement the method of thought-experiments with game simulations. The reason was to gain more and better insights into how market actors would react to the possible changes in the local regime of land laws. In particular, the thought-experiment carried out by Needham and Geuting (2006) resulted in the expectation that small differences in the way that the legal ruling is formulated can have big consequences for how market actors react: but that method could go no further. The strength of game simulation is that it can provide additional insights into the ways of thinking and acting of the public and private actors. There are other research methods which are sometimes applied to predict the consequences of such changes, such as interviews, brainstorms (the Delphi method, group decision rooms, etc.), but these are not seen as being very reliable. That was the reaction too of the participants in the game simulation, many of whom had experienced those other methods. The participants were asked to evaluate the game simulation afterwards, and they said that it was instructive and inspirational to see from close by how the other market actors (often competitors) made strategy and chose tactics. The participants said that they now understood better not only the possible effects of changing the legal rules, but also how the market for property development worked.

More generally, in comparison with other research methods, game simulations seem to approach better what the results of actually changing the law would be. Mastik et al. (1995: 119) say that game simulation is an appropriate research method for investigating possible legal changes in the following circumstances:

• a complex environment;

• external factors exert a big influence;

• a large degree of uncertainty;

• many actors and many reciprocal relationships;

• the actors do not all have the same influence;

• there is a variety of opinions about problems and solutions;

• the persons and organizations involved will anticipate the change in law and act accordingly.

These circumstances are common in situations where real estate laws and – in particular – land-use planning are involved.