REAL ESTATE ECONOMICS (RPV6051)

CHAPTER FOUR
INTRODUCTION TO REAL ESTATE[RE]
[Pirounakis, N. G., 2013]
By Zekarias M.
[Lecturer, DE & PhD Candidate, AAU]
Addis Ababa, Ethiopia

07/15/2024 By Zekarias M.[Lecture & PhD Candidate]

 CHAPTER OUTLINE
Learning outcomes
Definition of RE
Concepts of RE
Scope of RE
Subsectors of RE
Demand for and Supply of RE
Characteristics of RE
Rationale for RE
Role of RE in Macroeconomy
RE Sustainability
Summary
 References
07/15/2024 By Zekarias M.[Lecture & PhD Candidate]
 Learning outcomes
After completing this chapter, you will be able to:
Understand the definition and concepts of real estate
Analyze the determinants of real estate business
Identify the subsectors or submarkets of real estate
Ascertain the actors of real estate economy
Determine the characteristics of real estate economy
Explain the rationale behind studying RE as separate discipline
Assess the role of real estate in the national economy
Examine the sustainability of real estate investment and development
 Guiding Questions?
1. What is real estate ?
2. What are the features of real estate ?
3. What are the determinants that affect real estate business?
4. What are the rationale behind studying real estate as a separate field?
5. What are the effects of real estate investment?
6. What are the contribution of how real estate in the macroeconomy?
7. How do sustainable real estate inv’t & dev’t are realized?
 Definition of Real Estate[RE]
The term estate means “all that a person owns”. The term real estate means all
realty owned as a part of an individual's estate.
The term estates in real properly is used to describe the extent to which rights
and interests in real estate are owned.
The term “real estate” is used to refer to things that are not movable
such as land and improvements permanently attached to the land, and
ownership rights associated with the real estate are referred to as real property.
Real Estate is a name given to land, buildings and legal rights over immovable
property, especially when they can be priced for possible sale in actual or
potential market(Pirounakis, 2013:1).
In short, Real Estate is immoveable property consisting of land and buildings.
 Definition of Real Estate[RE]
Property rights is the right of a person to the possession,
use, enjoyment, and disposal of his or her property.
Real property is contrasted with personal property.
An interest in real estate can be thought of as a right or claim on
real property, its revenues, or production.
Interests are created by the owner and conveyed to another
party. usually in exchange for other consideration.
 Definition of Real Estate[RE]
Usually a price attached to RE reflects derived demand.
Derived demand is a demand arising from expected outcome.
Example:
Residential land is demanded for the dwellings it can support;
The dwellings in turn needed for the flow of “housing services”
Agrarian land is demanded for the crop one can grow on it.
Retailers demand sites as gateways to customers.
In some cases [ e.g. landscapes of pristine beauty, conservation land,
monuments], land is wanted for itself rather than as means to an end.
This type of land, is often subject to protection, and can easily become priceless too,
hence, one can evaluate it in terms of opportunity cost.
 Definition of RE: Case for Discussion
To understand the concept more, let’s take the next case as example.
Suppose there is 10,000 square meter of land legally held by Mr. X
Besides, naturally, the land contains precious mineral. Yet, except for
ownership entitlement, he did nothing on the land. That is he neither
extracted the mineral, nor rented it out to others, cultivated, constructed
nor developed the land.
 Does this land qualify the definition of real estate? Why? Justify.
Basic Concepts of Real Estate[RE]…
Freehold (fee simple) is the right to own land in perpetuity [eternity]
Leasehold is the right to hold or use property for a fixed period of time
at a given price, without transfer of ownership, on the basis of a lease
contract [www.investorwords.com]

Lease is a contract arrangement in which rights of use and possession

are conveyed from a property’s title owner, called the landlord, or lessor
in return for a promise by another, called a tenant, or lessee to pay rents
as prescribed by the lease.
 Basic Concepts of Real Estate…
Broad classes of property:
Personal property
Real property
 Real Property: includes land
Land: surface of the earth, the area below surface to the center of earth, and area above
surface to highest heavens plus all structures and improvements which are permanently
attached.
Improvements: Anything used to better or “improve” the use of the land.
Artificially attached items
Real property and
Not personal
Appurtenance: Any right or privilege that is considered to “run with the land.”
Rights and privileges may be “personal” in nature
Consider sewer lines or municipal water
 Basic Concepts of Real Estate …
Real property also includes tenements and hereditaments
Tenements: include land as defined, plus all corporeal (tangible) and incorporeal
(intangible) rights in land.
Hereditaments: include all land and tenements which can be inherited.
Personal Property-anything not real property
 Vehicles and boats
 Jewelry, paintings
 Mined minerals or harvested crops/timber
 NOTE: Some items can be either real or personal property depending upon the
circumstances. Example:
Which is real property
and which is personal
property?
 Basic Concepts of Real Estate …
Economic Characteristics of Land
Scarcity : There is a limited available supply of land.
Permanence of investment: the fixity of an investment in RE in a given area
makes it a permanent investment.
Location (Situs):The 3-L’s of value
The 3-L's– location, layout and lot. These three items are important for two
reasons: [1] Future resale value and [2] Lifestyle convenience.

Physical Characteristics of Land

Immobility-Economic value through location
Permanence-the physical permanence of land affects its long-term value.
Uniqueness (non-homogeneity) – Each property is unique.
 Concepts of Best Use and Investment
Best Use: Best allocation, maximum & sustainable benefit
Provides greatest potential net return on investment
Under-improvement or over-improvement diminishes highest & best use
There is only one highest and best use at any given time for any given property.
The highest and best use of a specific property changes over time.
Consider possible uses of a valuable piece of urban land:
parking lot (under improvement)
high rise apartment (zoning regulations on height)
maximum legal height of an office building (over improvement)
optimal height office building (highest and best use)
 Concepts of Best Use and Investment
Public and Private Land Use Restrictions
Public land use controls
 City planning & zoning
 State & regional planning
 Building codes
 Occupancy requirements
 Environmental requirements
Private land use controls
 Restrictive covenants
 Easements and other restrictions
 Concepts of Best Use and Investment…
Real Estate Investment Objectives
Personal use
Long-term appreciation
Tax shelter
Investment leverage
Positive cash flow
NB: The emphasis for today's investor is usually either personal use or positive
cash flow with appreciation. Historically, real estate investments were
primarily used as tax shelters.
It involved RE investment, appraisal, management, policy, research & dev’t.
 Scope of Real Estate Business
The Real Estate Market
The Free Market Concept
 Buyers and sellers are free to negotiate and establish a price acceptable to both without
undue pressure, urgency, or outside influence other than the principle of supply and demand.
Special Characteristics
 The physical characteristic of immobility results in a market that is slow to react to changes
in supply and demand.
Supply and Demand
Many factors impact the value of property:
 number of properties available in an area
 building production schedules
Cycles and Trends
 Just as the economy is subject to peaks and valleys the real estate industry is also subject to
recurring periods of recession and prosperity.
 Subsectors [Submarkets] of RE
1. Best land use as derived demand for RE
Its existence creates RE subsectors or submarkets
 Example: agrarian land competes with residential land, and the latter with
commercial [offices, hotels, retail] and industrial [ e.g. warehousing], since all
these d/t land uses are defined by d/t goods or services sell at different prices.
 A structure of land prices is created and much determined by the highest price
that can be paid for the “best land use”.
Thus, the derived demand for RE is the rule rather than the exception.
2. The specific characteristics of land
These include location, its features & properties, & its relative scarcity,& the
general environment-broad land use (e.g. residential), different prices &
different subsectors will emerge [e.g., good vs. bad neighborhoods].
 Subsectors [Submarkets] of RE…
3. The features of buildings create markets for new versus old buildings.
4. The diversity of legally accepted property rights pertaining to RE assets.
 Examples: such rights as ownership versus renting versus in-between
tenures or freehold versus leasehold rights.
5. All four ways interact, creating a fluid plethora of RE submarkets.
 In this universe, the broadest distinction is b/n housing & non-housing RE
Although housing submarkets exist, some authors ask whether it is
legitimate to speak of a single, homogenized market in housing at all.
Location & Authentic vs Derived Demand for
RE
All demand for RE is not fully derived[location-induced], but the total
demand for the item includes a non-derived (i.e. authentic) element.
When a built structure have emotional, social, or ‘brand’ value which also
involves demand for RE…..item-based desire.
Residential RE is the best example for authentic demand for RE
Some commercial RE, say offices may give rise to “authentic” demand if
having an office in a certain location or building adds reputation to a firm.
Relatively large extent of authenticity in residential RE demand
constitutes this kind of RE apart from derived demand.
 Authentic Demand for RE
Derived demand for RE (e.g. commercial, industrial, & agrarian) focuses on
economic benefits with which the item is associated.
Authentic element [i.e. demand for the item itself rather than any economic
benefits] is usually included under the notion of utility.
Under fairness hypothesis of economic profession, most households choose where
to live on the basis of “mundane” aspects, like house price in relation to income,
proximity to employment, transport costs, and suchlike.
In the case of owner-occupation, the ‘mundane’ thought is the relationship
between a homeowner’s outstanding mortgage debt and the market price of
the property.
Hence, the residential owner-occupiers’ “authentic” demand for location is mostly
stronger than residential renters’ “authentic” demand for location.
This would reduce the mobility of owner-occupiers relative to that of renters.
 Actors of Real Estate
Assuming the reduced economy model , there are four major actors of RE:
Government
Households
Firms[Landlords, RE owners]
Agents
When open economy model, five major actors of RE can be found:
General households
Private investors
Government
Foreigners
Agents
 Demand and Supply of RE
[From DD & SS to Financial Markets & GDP]
 Characteristics of RE
Some basic realities of RE including:
location specificity,
 inelasticity of land supply,
pivotal place in human activities,
durability,
high construction costs,
the wealth feature -separately or in combination, three wide-ranging implications:
i. RE affects the most important part of urban structure and form: welfare society
ii. RE affects and affected by-financial markets, mortgage & other interest rates, loan,
assets, returns on assets, financial & economic growth: ultimately determines the
long-term investment & dev’t impact
iii. RE determines the housing wealth effect- aggregate demand econ impacts.
Mortgage-Loan-Finance RE Inv’t-Real GDP- Real income- New RE Inv’t -Financial Inv’t-
Wealth effect of RE- boost ADE-Boost GDP
 Characteristics of RE
Perfect inelasticity of land supply would occur only in two cases:
A. over land as a whole, i.e., all the land in a country or on the planet
B. over land at a specific location
 Characteristics of RE…
1. Location-specific: Fixity of location
2. Inelastic land supply-Price
determined mostly by derived DD
3. Legality-use and availability defined
by legal (property) rights
4. Heterogeneity
5. Imperfect information
6. High transaction cost: search,
management, and moving costs
7. Monopolistically competitive market
8. Indivisibility [most cases, most time]
9. Fragmentation into (interacting)
subsectors or submarkets
10. Durability
11. High construction cost of buildings
12. Impacting urban structure & form
13. Interaction with financial markets
14. A strong wealth aspect-AD
15. Multi-faceted interaction with the
wider economy: bost I,Y, C, AD, GDP
 Rationale for RE
Among others, the reasons we study RE economics broadly includes optimizing
competing institutional, social, economic and environmental dev’t objectivizes:
Policy making-Institutional rule of the game [Pirounakis, 2013: Ch 3,4,7& 9-11]
RE Investment-Finance, supply, price, return, growth, price [refer Ch5-7, 9,11, & 12]
Employment : Increasing, productive, inclusive & intergenerational], income & demand
Urbanization: Integrated urban policy, design, planning, execution, growth, dev’t]
 Agglomeration
 Linkages, Integration
 Industrialization
 Economies of scale
 Income, Revenue, AD, GDP
 Sustainability
Largely, Supply side- Linkage-demand side effects, outputs, outcomes, and feedback
The Role of RE in the Macroeconomy
 Role of RE in the Macroeconomy
Broadly, the impact comprises the SS & DD side economies
RE in national accounts[construction, manufacturing, etc.]
RE Inv’t & economic growth[multiplier effects: Qm, Em,Ym]
RE Inv’t & Finance dev’t[ utility-driven, tobin’s q, etc.]
RE prices on SR growth [C, I, financial sec.,
Housing wealth effects [HWE][Home-equity adjust, consumer-credit ]
Homeownership &Labor market
 Economic Feasibility
[Property right, resource valuation, externalities, production,

y
investment, employment, technology, supply, trade,

tal
transaction cost, finance, credit, price, efficiency, incentives,

resource
penalties, taxation, agglomeration economies, return, capital

waste, green
technologies,

infrastructure,

[Land, land use,

location, design,
accumulation, economic growth & welfare, etc.]

greeneries, water,
sustainability, etc.]

Environmen
Sustainabilit
RES
projects, plans, synergy, etc.]
Regulations, rules, directives, programs,

etc.]
stakeholders, leaders, Polices,
Social
Equity

networks,
[government structures, governance,

recreational

pools, social
[Basic services,

market, market,

capital, fairness,
security centers,

centers, common
schools, hospitals,
Institutional Effectiveness
Real Estate Sustainability[RES]
 Summary
RE is marketable business on immoveable property consisting land &
buildings.
RE is real property unlike personal prosperity & affected by external factors.
Characteristics of RE [e.g. location-specific, inelastic ss, heterogeneity,
durability, costliness ] defines the RE policy, planning, inv’t, growth, & dev’t.
Usually demand for RE is derived demand, i.e. what matters most is the
associated value of the property rather than its mere availability.
There are several submarkets for RE; the most common are housing and non-
housing properties, their interactions, resulting practices, effects & impacts.
The key actors of RE include the government, firms, households, and agents
 Summary…
Best use of RE implies the increasing, maximum and sustainable
resource allocation, investment, employment, growth, & dev’t.
“Derived” vs “authentic” demand for RE directs RE inv’t,
economic benefit, social equity & utility
Rationale for RE analysis emanates from policy, employment,
investment & urban structure & form regimes of growth & dev’t.
Consequently, RE interventions shall augment the institutional
effectiveness, social equity, economic productivity and
environmental sustainability towards ensuring an integrated
inclusive growth, livelihoods, sustainable dev’t and welfare.
THANK YOU!