Property prices & climate change

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By Cris Lingle (U.S.) | October, 2016

It is well known that many scientists believe that climate change will lead to higher temperature, more frequent droughts, erratic rainfalls and rising sea levels. Of course, such a turn of events could lead to adverse impacts on, agriculture, forest, biodiversity, health, energy, human settlements and so forth.

Of particular interest are estimates that Sri Lanka might experience an increase in the sea level by 1.0 m by 2070. As such, Sri Lanka’s coastal economy and coastal environment face large risks from inundations of low-lying areas.

For their part, scientific projections are based on the construction of statistical models that attempt to identify thousands of relevant variables and billions of data points. Accuracy of climate change estimates requires these models to consider all relevant variables and correct depiction of these inter-relationships. If this is done, the next step is to collect sufficiently-large data samples that reflect a realistic view of past events as a way to extrapolate into the future.

While thousands of scientists may agree on the likelihood and effects of climate change, actions of millions of current and prospective property owners offer hope that doomsday scenarios of scientists might be wrong. As it is, assertions of scientific certainty about the likelihood of these events are not supported by economic expectations as expressed in markets and prices for land.

To understand this, begin with the fact that current prices include an estimate of the economic value of attributes that affect the future market price of an asset. In particular, prices in property markets tend to reflect the characteristics of physical assets, including a range of perceived risks that might arise from ownership or transfer. Buyers and sellers make their own predictions concerning the costs or benefits arising from expected future changes in any of many variables that influence the value of an asset.

As such, property prices reflect many considerations affecting desirability or exchange value not only in the present but also in the future. Among these are the condition and lifespan of physical structures, anticipated depreciation or deterioration, risk of natural disasters and proximity to undesirable or dangerous sites.

As it is, risks like hurricanes, crime, and changing regulation are reflected in property prices as they have been for as long as those properties were traded. In more recent years, this should have included the impacts of anticipated change in future climate variables.

Since asset markets capitalize information, pervasive access to climate information should have had an impact on land prices. As it is, dire consequences from global warming have been discussed for decades. In particular, coastlines are expected to shrink due to rising oceanic levels while property at low elevations may have more flooding. Many of these same properties are supposed to be more vulnerable to another threatening element of climate change, increased frequency of extreme weather events.

In turn, there should been significant, uniform declines in affected prices. But there is little evidence of declining prices for beachfront property or villas on seafront, coastal city waterfronts or regions prone to hurricane or tornados or cyclones.

Note that a slump in property valuations does not require that current property owners agree that the alarm over climate change is warranted. All that is required is that they believe a large number of sellers or prospective buyers accept the scientific arguments.

Despite “settled science” on climate change and the many presumed negative consequences of rising average temperatures, a mystery is at play here. Asset valuations reflecting market capitalization based on information about future conditions do not indicate widespread expectations of falling land prices in endangered areas.

Consider the many low-lying barrier islands along the Atlantic coast of the USA that are vulnerable to hurricanes and the threat of higher average tides. Even before climate change became an issue, these properties were subject to tidal erosion. If estimates for rising sea levels are from 3 to 6 feet by 2100 are correct, much of the state of Florida, most of Bangladesh and many island nations would be under water.

Owners of homes and other properties know there is a higher degree of certainty for damage to their possessions from hurricanes than from climate change. Despite these probabilities along with prospective harmful effects of global warming, land valuations of supposedly imperiled land have not exhibited significant declines.

Indeed, the actions of Al Gore, well known for having raised public awareness about the dangers of climate change, suggest he is worried about coastal flooding. Paying $9 million for a beachfront villa in southern California suggests he does not believe it to be at serious peril or will lose much of its value in a future, perhaps warmer world.

It could be that he and others expect governments to provide aid or subsidies or scientific innovations (e.g., alternative energy sources) will halt warming or avert coastal flooding. Or maybe coastal housing prices would have been higher or are rising more slowly than they have if there had not been widespread publicity about dire effects of climate change.

But none of these is very convincing as explaining the lack of evidence of falling prices of “endangered” land. First, given that the woeful fiscal situations of most governments, there is no guarantee of bailouts, even less so since the heightened risks are so widely publicized.

And climate change literature does not hold out hope for dramatic scientific solutions to avert the harmful effects of climate change. Indeed, warnings of imminent “tipping points” moving us closer towards global destruction are a much more common theme.

Indeed, there is some evidence that rising average temperatures on some agricultural regions, e.g., northerly vineyards in Europe, has been widely beneficial. In the Champagne region of France, a 1.2 degrees centigrade increase in temperatures over the past 30 years reduced frost damage. It also added one more degree in the alcohol level while reducing acidity and allowed harvesting two weeks earlier. Besides benefiting northern Europe, it is possible that warming may generate real estate booms in Canada; Russia; Alaska; Patagonia, Argentina; and southern Africa.

It could be argued that the lack of lower prices on endangered property might reflect a limit on markets to be based on fully-informed decisions. Following this arguments, market prices may not internalize the impact of climate change since they tend to be much better at using local knowledge rather than global concerns.

But prices are robust measurements of preferences and expectations that reflect actual transactions and provide rewards for correct predictions or penalties for incorrect ones. As such, those involved in markets exchanges have a strong incentive to acquire as much information as seems relevant to their interests and interactions. Individual actors in a real estate market must discover what information is relevant to their interests.

But given that the risks of global climate change reflects many seemingly unrelated phenomena, they may seem irrelevant to actors in local property markets. With so much coverage of the nature of climate change and its consequences, it is unlikely that it has been ignored, especially for property that falls under the “endangered” category.

Despite a constant stream of bad news about global warming, few people sounding the alarms have “skin in the game” in terms of putting their own resources into play. Anyone expressing opinions about negative effects from climate change without putting their own money at risk are likely to overstate the future consequences of climate change.

Regardless of the scientific consensus about global warming, prices do not foretell expectations of dramatic changes in values of land that might be affected in the worst way. A better indicator of the possible harm from climate change to land prices is the sale of financial instruments that “short” the type of property that is supposedly imperiled.

Christopher LINGLE is an expert of Rana. Visiting Professor of Economics at Universidad Francisco Marroquín in Guatemala and Research Scholar at the Centre for Civil Society in New Delhi.