Download Land Values Trends - Iowa State University, Department of Economics

LAND VALUE
AND PURCHASE
Prepared by: Michael D. Duffy, extension economist, Iowa
State University, Ames, Iowa.
Lesson 1: Land Value Trends and Determinants
Overview
This lesson provides background information on
two important parts of the land purchase decision.
First, we will look at land market trends of the past
as well as the future. The second part of this lesson
will discuss several important considerations in the
land purchase decision. Many of these factors are
beyond the farmers’ control and even beyond the
farm gate, but they are important nonetheless in
determining the feasibility and desirability of a land
purchase.
It should be noted that in many instances value and
price are terms used interchangeably. In most
circumstances this should not present a problem. In
general, however, price is what someone pays for
land whereas value is what the land is worth to an
individual. A parcel of land may have the same
price but different values to different people.
Land Value Surveys
Current information on Iowa land values can be
obtained from several different sources. Each
source uses a different timeframe and reports land
values in slightly different ways. Iowa State
University Extension conducts an annual opinion
survey. This survey, released in mid-December,
provides estimates of high, medium, and low
quality farmland and a weighted average value at
the state and crop reporting district level. It also
provides county estimated values. (Click here to
see the most recent edition of the Iowa Land Value
Survey) The Iowa Chapter of the Realtors Land
Institute provides an
opinion survey twice a year, in September and
March. This survey provides estimates for a
variety of Iowa land classifications at the state
and crop reporting district level. The Chicago
Federal Reserve provides quarterly estimates of
the changes in land values. These estimates are
provided at the state and federal reserve district
level. (Click here for the latest version) The
USDA Economic Research Service provides an
annual estimate of the land values at the state
level. Finally, the Census of Agriculture
conducted every five years by the USDA
National Agricultural Statistics Service provides
estimates of the land and building value at the
county and state level.
Land Values Trends
Long-term Iowa land values for the most part
have shown relatively stable growth (Figure 1).
There are, however, two notable exceptions.
Land values more than doubled from 1910 to
1920 and then from 1921 through 1933
decreased by 71 percent.
A more recent phenomenon was the more than
four-fold increase in Iowa agricultural land
values from 1973 to 1981. As with the 19101920 surge, the increase in the 1970s was
followed by a significant decrease of over 60
percent, from a peak of $2,147 per acre in 1981
to $787 per acre in 1986.
Figure 1: Iowa Land Values
Namely:
Land Value=Net return/Capitalization
rate where,
Net return equals all the returns after
subtracting costs. The returns include
commodities produced, changes in land
values, government payments, and any
other income.
Capitalization rate is the real interest
rate which would be the interest rate
minus the inflation rate.
The quality of land had some impact on the
magnitude of the rise and fall in land values during
the 1970s and the 1980s. Based on the Iowa State
University Land Value Survey (FM-1825), highquality land increased in value by 415 percent from
1970 to 1981 and decreased in value by 62 percent
from 1981 to 1986. Medium-quality land showed a
similar trend as high-quality land, increasing by
414 percent and then decreasing by 63 percent from
1981 to 1986. Low-quality land followed a
somewhat different pattern. It increased in value by
384 percent and dropped by 67 percent during the
same time periods.
Land values also include how much the land is
worth to the individual. Many farmers will pay
substantial premiums to own a particular piece
of land. Land can be highly valued because of
differences in costs of production. Similarly,
land can be valued higher for sentimental
reasons, because it may fit perfectly with the
existing farm plan, or because of the particular
buildings. Regardless of the reason, all these
factors plus the simple desire to own agricultural
land, will cause different individuals to value the
exact same land differently.
Recent Land Market Trends
All regions of Iowa followed a similar pattern to the
statewide averages; significant increases in the
1970s followed by a substantial drop in the first
half of the 1980s. A difference that can be noted,
however, is some counties peaked in value in 1980,
while the majority of counties and the state
estimates peaked in 1981.
Estimating Land Values
Predicting future land values is a risky business.
Land prices are determined by three key factors.
First, is the potential income expected from the
land. The second factor is potential changes in land
use. And, third is the capitalization or interest rate.
These points will be covered in greater detail in
other lessons. It is important to remember that
expected income, the expected change in price, and
the interest rate shape the land market.
Land is purchased primarily as a long-term asset.
Estimating the value of land will be covered in
Lesson 5. For now it is only necessary to
remember that the value of land is determined
similar to the value of an asset held in perpetuity.
The boom in the 1970s and the bust in the 1980s
can be traced to expectations of future income
and land prices. The boom was fueled by two
primary factors. One was the opening of many
world markets including the former Soviet
Union and China, coupled with exponential
growth in agricultural exports. The world
demand for food was growing faster than the
growth in food production. The second factor
was the high rate of inflation coupled with low
real interest rates. The high level of inflation
kept pushing prices up and the relatively low
interest rates made debt financing an attractive
tool.
These factors contributed to the general euphoric
atmosphere in agriculture during the 1970s.
According to data from the Iowa Farm Business
Association, 1973 was the only time in the past
50 years when the average return to management
for the farms in the lower third profit group was
positive. “They don’t make land any more,”
“everyone has to eat,” and “land will be worth
more tomorrow” were all arguments used to
justify the tremendous price rises for agricultural
land.
Just as the expectations fueled the boom in the
1970s, they fueled the bust in the 1980s. The two
primary factors reversed themselves. World food
demand began increasing more slowly than the
increases in food production. Exports of the U.S.
farm products dropped and the Federal Reserve
Board instituted policies to reduce inflation which
led to high interest rates. Many real estate loans
were on a variable rate. When expectations for
future farm income dropped, the expectations for
future increases in land prices reversed themselves,
and the debt, which was desirable in the 1970s,
became a burden in the 1980s. Again, data from
the Iowa Farm Business Association shows that
1981 was the only year in the past 50 years when
the average return to management for the farms in
the highest third profit group was negative.
Since hitting the bottom in 1986, land values in
Iowa have been increasing at an average rate of
approximately 7 percent per year. Some percentage
increases were in the double digits, with two years
of slight decreases in values. In 1998 Iowa land
values slipped 2 percent, in 1999 they dropped 1
percent and in 2001 they rose 3.7 percent to $1,926
per acre.
Regionally there have been different land value
changes from year to year, depending on the
relative strength of the area’s predominant
enterprises. For example, in the mid-1990s
northeast Iowa land values increased more than the
rest of the state due to improved milk and cheese
prices. A breakdown of land values by quality of
land for each crop reporting district from 1950
onward is available at the local county Extension
office or by clicking on:
http://ia.profiles.iastate.edu/data/landvalues/. This
site also contains the average county land values.
2001. Investors were identified as purchasing 18
percent of the farmland in 1989 and this
percentage increased to 27 percent in 2001.
Investor purchases are more prevalent in some
parts of the state than others. For example, in
2001 investor purchases ranged from 22 percent
in west central Iowa to 41 percent in south
central Iowa. There are many reasons why
investors are more interested in different parts of
the state. One is the expected income from the
property. Another factor has been the increase
in demand for non-farm land uses such as
development, hunting camps, or simply country
residences.
There is speculation as to exactly who these
investors are. Some feel this category is
synonymous with outside investors. However,
this is not always the case. It could be local
churches, or other institutions. Regardless of
how the investors are classified, it is doubtful
they will make land purchases for the same
emotional reasons as farmers.
The recent changes in livestock production also
have added a new dimension to land purchases.
The increase in size of operations, particularly
for swine, has led to an increased need for land
on which to dispose of the manure that is
generated. This demand has been spurred by
legislation limiting application rates. Some
operations are finding it more advantageous to
own the land rather than be subject to the
uncertainty of renting.
Land Value Projections
As we noted earlier, projecting farmland values
is risky. In general, however, land values will
increase over the long run. How much they will
increase and what will happen in the interim is
unknown.
Land Purchasers
The primary purchasers of farmland have changed
over the past few decades. Data from the ISU
survey shows farmers have always been the
predominant land buyers representing over two
thirds of the land purchased. In the past few years,
however, the percentage of land purchased by those
classified as investors has increased. The percent of
land purchased by existing farmers has declined
steadily since 1989 from 78 percent to 67 percent in
Each year attendees at the Iowa State University
Soil Management and Land Valuation
Conference are asked to project future land
values. The projections are for various points in
the future; 6 months, 18 months and 3 more
distant years. Not surprisingly, the forecasts for
six months are closest to the values that do
occur. (Actual values are assumed to be those
reported by the Iowa State University Land
Value Survey.)
Although the projections have missed by a wide
mark over the past 38 years, the averages are
remarkably accurate. The six-month forecasts,
which varied from 28 percent over to 25 percent
below the actual figures, averaged only 2 percent
lower than the actual values over the 38-year
period. The 18-month forecasts varied from 38
percent under to 79 percent above the actual value.
These forecasts averaged less than 1 percent below
the reported values over the entire period from
1964 to 2001.
The projections for land values have missed the
turning points over the past few decades.
Following the turning points, they tended to be
higher or lower than the actual figures but then
moved closer to the actual values.
Throughout most of the 1990s, the estimates and
the actual values were very close. From 1987 to
1997 the 6-month projections averaged just 1
percent above the actual values, while the 18-month
projections were only 1 percent below the actual
values. Since 1997 the conference attendees have
been overly optimistic about land values, with
predictions running more than 10 percent higher
than the actual figures.
Predicting land values farther into the future is even
riskier. The Soil Management and Land Valuation
Conference attendees were asked to predict land
values for the year 2000 since the 1984 conference
(Figure 2). The predictions have averaged just 1
percent below the eventual actual value. However,
there have been some interesting changes in the
estimates that highlight the problems
with forecasting land values. For the first two
years, the estimates were still based on the high
expectations of the 1970s. The first estimate for
land values in the year 2000, made in 1984, was
$2,716 per acre. This estimate was 46 percent
higher than the actual value reported for 2000.
The estimates during the 1980s reflected the
pessimism felt during the time of financial
stress. In 1987 the estimate for land values in
2000 was $1,414 per acre, which was 24 percent
below the actual value. From 1986 through
1995 the estimates for land values in 2000 were
consistently below what turned out to be the
actual value. Since 1995 the estimate of land
values in 2000 has averaged 12 percent above
the actual value.
Tracking the estimate for 2000 land values over
time illustrates the problems with attempting
such estimates too far into the future. First,
there is the problem of time where the more
distant the estimate, the more it becomes subject
to distortions. Second is the inherent danger in
using the immediate to predict the future. There
is a saying, “things are never as bad or as good
as they seem.” Tracking the 2000 land estimate
clearly illustrates this adage.
In spite of the difficulty in projecting land
values, it is necessary to have some idea of the
future in mind when making the land purchase
decision. Future projections are more important
for the investor purchaser, but they are still
relevant for the farmer purchaser, who usually
buys the land to own it rather than to resell it. In
my opinion, the best strategy to follow is to look
at several alternative scenarios for the movement
of land values. This gives the purchaser a range
of possible outcomes with respect to the change
in asset value. The would-be purchaser can then
make the decision based on the outcomes and
the consequences of each option. If the worst
outcomes constitute an acceptable risk, the
purchase decision can be determined using other
factors, but if the worst outcomes might cause
the business to fail, the decision must be made
with greater caution.
Other Considerations
Following is a discussion of several things to
consider in making land purchase decisions. All
of the factors influence land prices directly or
indirectly. In some cases, the influence will be on
prices received, in other cases the impact will be on
the demand for land, while other factors will
influence the financial health and well-being of
farmers or the country in general.
Changing Structure of Agriculture
U.S. agriculture is undergoing some of its most
profound changes in the nation’s history. There is
rapid consolidation in all sectors from production to
final retail sales. Dr. William Heffernan at the
University of Missouri has provided detailed
information on the consolidation that has occurred
in the processing and the retail areas. Examining
the Census of Agriculture data shows the
concentration that has occurred in production. For
example, in 1980 there were 64,000 farms with
hogs in Iowa. At the end of 2001 there were just
10,500 farms with hogs. Over the same time period
the average number of hogs per swine operation
rose from 219 to 1429.
Farmers who have dropped their livestock
operation or who do not have any livestock will
need a larger land base to produce an adequate
income. This leads to an increase in the demand for
land and an increase in the price of land.
The past few decades also have seen an increase in
the number of contract opportunities available to
farmers. Many farmers have chosen contract
production over the open market. Contracts will
vary but in general the farmers are told what to
plant, what inputs to use, when to harvest, and
when and how to market. Contracting decreased
the return to management for the farmer because
others are doing most of the management decisionmaking. With lower returns more acres must be
farmed to maintain farm income. This increases the
demand and price for farmland. Such changes have
a profound impact on the farmers’ relation to the
land.
The farm population is aging. Today, there are
more farmers over the age of 65 than under the age
of 35. Many farmers who are entering the stage in
their farming career when most farmland is
purchased grew up or started farming during the
tumultuous period of the 1970s and 1980s. They
will view land purchase and ownership differently
than their parents.
Another change is that there are now more
people living in the country but not on farms
than there are people living on farms. In the late
1950s, Iowa’s population shifted to having more
people living in urban areas than in rural areas.
In the late 1980s, the makeup of the countryside
shifted to more non-farm, country dwellers than
farmers. This changing population demographic
will influence the way that land can be farmed in
the future.
Government Agricultural Programs
Predicting future land values is difficult and
predicting future agricultural programs can be
just as troublesome. However, the impact of the
farm programs on land values can be substantial.
Data from the USDA Economic Research
Service shows direct government payments to
Iowa farmers averaged $907 million per year (54
percent of net farm income) over the 1990s. In
1993 and again in 1999 net farm income would
have been a negative without the government
payments (Figure 3). This level of government
support has a tremendous influence on land
values (Higher Cropland Value from Farm
Program Payments; Who Gains?; C. Barnard,
et.al., USDA, ERS, Agricultural Outlook Nov.
2001, pp 26-30). It has been estimated that onefourth of the current land values can be
attributed to the government subsidies.
Coupling of farm program payments to the land
base (rather than the operator) is critical to the
impact on land values.
At this time it is not possible to predict the
details of future government farm programs.
The 1996 program was intended to be the last
program and it was anticipated that production
agriculture would move to a strictly marketbased system by the year 2002. This has not
happened and the 2002 farm bill continues
supporting production agriculture.
The basic farm production support programs are
just one way in which government agricultural
programs influence farm profitability and hence
land values. The programs for food stamps,
school lunch programs and food for the elderly
are examples of programs that stimulate demand
for agricultural products.
Exports have become a significant portion of the
market for most agricultural commodities: corn,
soybeans, cattle and hogs. U.S. export policies
influence the level of export activities, which in
turn affect price and profitability, and ultimately the
value of land.
Regardless of the many other factors that
influence U.S. agricultural exports and world
trade, we have become more dependent on
export markets for our products. Anything that
disrupts these markets influences price, land
values and the land purchase decision.
General Economic Policies
The linkage of agriculture and land prices to the
rest of the economy occurs at at least three major
points:
1. purchase of inputs,
2. effect on output sales, and,
3. non-agricultural financing sources.
As agriculture has changed over the last few
decades, these linkages have become stronger.
There appears to be little chance that this trend
toward the greater integration of agriculture into
the domestic economy will reverse itself.
Export Markets
U.S. policies influence U.S. exports, but there are
other factors that also have an impact. The World
Trade Organization establishes rules and
regulations that govern the trade among most
nations. There are regional agreements such as the
North America Free Trade Agreement. In addition,
individual countries have policies that affect all
aspects of international trade.
Recent concerns with communicable animal
diseases altered trade among some nations. This
influence will likely continue and it is causing some
to reconsider the current approach to international
agricultural trade.
Another factor that has emerged recently is sales
competition for our export commodities. Whereas
the United States used to be the sole or major
supplier for several farm commodities, we now find
ourselves in a position of being the residual
supplier with uncertain demand from year to year.
The recent furor over genetically altered
commodities poses yet another trade uncertainty.
Some U.S. consumers and other countries are
becoming more insistent that commodities and food
be certified free of biologically engineered material.
The economic variables with the greatest
impacts on agriculture and land values are:
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gross domestic product,
disposable income,
population growth,
inflation rate,
interest rate, and
the exchange rate.
The Gross Domestic Product (GDP) is a
measure of how the U.S. economy is growing.
In general, as the economy grows, the demand
for agricultural products will increase. The
current Blue Chip forecast is for GDP to grow at
just over 3 percent, which will be close to the
30-year average.
Disposable income is the personal income
consumers have left to spend after taxes and
influences agriculture primarily through retail
sales. As disposable income rises, the demand
for more food services also increases. The recent
tax cut should have an impact on disposable
income, but in general growth in disposable
income should coincide with growth in the
general economy.
Interest rates for agriculture are determined by
the interest rates paid in the general economy,
which are reflected in the supply of money and
the demand for funds. Changes in interest rates
affect agriculture primarily through the cost of
capital. Interest rates are subject to a variety of
factors that will influence the projections. It is also
important to note there are both long- and shortterm interest rates that impact agriculture.
The inflation rate affects farmers both directly and
indirectly. The most direct impact is on the cost of
purchased inputs. Studies have shown a nearly
direct link between an increase in inflation and a
similar increase in costs of production. The indirect
impacts of inflation are felt through the effects on
the value of the dollar and volume of agricultural
exports.
The final key economic variable to watch is the
value of the dollar. The exchange rate is a measure
of the relative worth of our currency compared with
other world currencies. The value of the dollar,
therefore, depends not only on U.S. economic
conditions, but also on economic conditions
existing in other countries. A strong dollar reduces
exports while a weak dollar will increase them.
Due to the complexities of determining the value of
the dollar, it is almost impossible to accurately
project what will happen over the next few years.
Energy Prices
A factor to watch closely will be energy prices.
Our agriculture is dependent on cheap fossil fuel
energy. As this energy increases in price, there will
likely be shifts in our production practices.
Fertilizers are the primary energy consumers in
production agriculture and nitrogen is the chief
energy user among the fertilizers. It takes the
energy equivalent of approximately one gallon of
diesel fuel to deliver five pounds of nitrogen. This
means that 100 pounds of nitrogen would have the
same energy as approximately 20 gallons of diesel
fuel.
Propane for corn drying is another significant
agricultural energy use. The amount of propane
used depends on the type of dryer and the amount
of moisture to be removed from the corn.
Recent estimates show an increase of 50 percent in
the cost of diesel, anhydrous ammonia, and propane
would add 6 percent per bushel to the cost of corn
production. This increase would be on top of a
base price of a $1.10 per gallon for diesel, $340 per
ton for anhydrous, and $1.00 per gallon for
propane. A 50 percent increase beyond these
costs is definitely not out of the realm of
possibility.
Energy price increases will have a ripple effect
throughout all of agriculture, not merely in
production. Increasing fuel costs will increase
the cost of delivering and processing agricultural
products. In addition, there will be regional
shifts in production as the cost of transportation
increases.
Agriculture is the residual user of energy after
domestic and industrial uses. In case of
shortages, agriculture will be the probable sector
to experience a cut in supply, as we saw during a
recent natural gas shortage.
Energy will be the key domestic and global issue
in the 21st century. What happens to energy
prices will have a direct bearing on agricultural
profitability and on agricultural production.
The energy situation also will bring to the
forefront some alternative crops and enterprises
that are not currently profitable. Biomass
production for electrical generation is no longer
a dream. Production of switchgrass, reed canary
grass, and other biomass crops will become
more attractive with higher energy prices for
petroleum-based products.
There also has been some discussion of using
agriculture for carbon sequestering. This would
require a change in agricultural practices but it
would also yield an increase in returns.
Conservation
Soil conservation has long been a critical topic.
Some existing programs reward good
stewardship practices and it is quite likely they
will be expanded in the future. The programs for
soil conservation offer not only an opportunity
for landowners to increase their income but to
protect their investment as well. Farmland will
be subject to different conservation rules and
programs depending on its quality, which is
another factor to consider in the land purchase
decision.
Technology
Changes in technology are constantly occurring. In
production agriculture these technological
changes generally lead to yield enhancing
characteristics or they lead to cost reductions.
Recent changes in crop genetics and genetic
modification through biological engineering are
examples of technological changes that impact the
return to land. Recent applications of global
positioning and variable rate application technology
are other examples of changes in technology that
have influenced returns.
It is not possible to predict the form or even the
direction that new technologies will take.
However, it is almost for certain that there will be
technologically induced changes in production
agriculture. The impact of these technologies on
land values depends on a variety of factors. Does
the technology impact all farms equally or is there a
size bias? Does the technology increase net
revenue or does it make the job of farming the land
easier? The answers to these and many other
questions will determine whether or not a
technological change will impact land values. They
will also determine the magnitude of the impact.
Summary
Farmers, for the most part, do not purchase land for
the same reasons as investors. They purchase the
land intending to farm it. This means there can be
many different values placed on the same land.
Another inescapable fact is that agriculture has
become increasingly tied to the rest of the U.S. and
world economies. Farmers cannot afford to ignore
this reality in making their land purchase decisions.
Farmers should not try to be economic forecasters.
Rather, they should be aware of the past,
acknowledge their links to the rest of the economy,
and formulate their own opinions. Careful
evaluation of a wide range of possible outcomes
will indicate the level of risks and consequences
possible from purchasing land. Remember that the
land purchase decision is a long-term one. The
economy can grow and contract, but if the
purchasers have carefully evaluated their decisions,
they should be able to weather the storms.