Skyrocketing Land Costs Have Driven The Runup In Home Prices

If you want to know why home prices have skyrocketed, surpassing even the bubble price levels of 2005-2006, the answer is right under your feet. The value of residential land hit bottom in 2010, and starting in 2012 bounced back at a pace that shocked even veteran home building executives. (I know this because I was an advisor to those home building executives during this period).

In some parts of the country, the rates of increase were nothing short of startling. A report just issued by the Harvard Joint Center for Housing Studies shows the parts of Nevada, Colorado, California and Florida that had the most dramatic runups in lot prices.

According to the Harvard study, of the 46 states where lot prices per acre rose over this period, the largest increases were in Nevada (up 158%), Colorado (up 96%), California (up 88%), Arizona (up 81%), and Utah (up 81%). Doublings occurred in Riverside and San Bernardino Counties in California, as well as in Eagle County and Adams County in Colorado.

The most extreme rates of increase were out west, but it should be noted that many east coast markets had slower rates of increase only because they were already at high values. Median lot prices occupied by single-family homes are at $487,000 per acre in Massachusetts and $641,000 in New Jersey. That said, Miami-Dade County saw more than a doubling of median lot values over this period.

This surge in land values is one of the key reasons that home prices have risen so dramatically since the recession. The Harvard study emphasizes that nominal home prices are now 11% higher than at the peak of the bubble in 2006, and are within 2% of peak on an inflation-adjusted basis.

When asked why new home prices are higher than before, homebuilder executives refer to the Three “Ls”: Land, Labor, and Lumber. In this instance, “land” can refer either to tracts of developed lots, which are increasingly hard to find, or raw land, which the builders have to develop or find somebody to develop for them. Both varieties of homebuilding land have become incredibly scarce, at least in the areas that are within an easy commute to the downtowns, and increasingly expensive. This has driven many builders to focus in recent years on the “move-up” buyers, but more and more builders are devoting energy toward producing homes that are more economical. Some of this is being achieved through home design, and some of it is through the development of areas farther from the downtowns where land is less expensive.

Labor shortages and high prices of materials used for homebuilding (lumber being a prominent one) comprise the other sources of cost pressure for builders.

Over the coming years, when mortgage rates start to move higher, monthly payments will rise, and the issue of affordability will become more acute. The rate of home price increase has slowed in recent months, and is likely to slow further over the next two to three years. The problem is going to be that even if the rate of home price increase slows to match the rate of income growth, rising mortgage rates could still translate into continued declines in affordability. That’s because most home buyers gauge affordability based upon the monthly payment, and that measure of cost is likely to continue to rise in the next several years.

This post first appeared on Forbes.com. To see the original, click here.