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Discount Rate

Bill Batt: Comment on Parts of the NYS Legislative Tax Study Commission's 1985 study “Who Pays New York Taxes?”

The other component of a real property parcel is the land value, which reflects a market price based on very different criteria. Despite the apparent reality that land is visible and tangible, land prices reflect the value of location more than they do the material content they contain. This is easy to understand when one reflects that if some earth is removed from a site and brought to another place, the prices of each site is largely unaffected.21 Location value has duration, and the value of this flow of rights for exclusive use of a site requires a flow price rather than a stock price. This flow is really what classical economists refer to as ground rent or economic rent.22 Also known as “land rent,” it is defined as “a payment to a factor beyond what is needed to put that factor into use; [it is a price for use] beyond what is needed to maintain a market for land.”23 Land has a selling price because we have come to regard land sites as objects, as commodities to be traded,24 and they are understood to have a static price, as a stock rather than as a flow. That stock price really needs to be understood instead as the “present value” of the flow of ground rent minus taxes. “Present value” is an economic term that refers to “the worth of a future stream of returns or costs in terms of their value now.”25 Consideration in this way brings to the fore other concerns and factors.

The market price of a location depends not only on ground rent and taxes, effectively its present value, but also upon the “discount rate,” or interest rate, that prevails in the market used to calculate its returns and costs. When interest rates go up, the market prices of sites fall, just as for any other economic encumbrances placed on locational sites. ... read the whole commentary

 

 

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