We all know one of THOSE people. The aunt who wears the same hat every day, even if it is threadbare. The brother who is still holding a grudge about the time you took the last corn muffin at Thanksgiving. Sometimes we are the ones who keep boxes of the past piled up around our ears, unwilling to let go of the 3rd grade report card when we got an "A" in art class. Whoever they are, they impede progress, they get in the way, they slow everything down. Can this kind of mentality be the caues of a market failure in land-use?
Thomas J. Miceli and C.F. Sirmans wrote an article in the Journal of Housing Economics in 2007 where they argue that the "hold-out" problem is a contributor to urban sprawl. At this point, it would be beneficial to mention that while the authors seem to believe that sprawl leads to many other negative social and economic problems, they are using a definition of sprawl for the purposes of their paper that involves lower density development on the outskirts of a city that is somehow less effecient thanit would be to develop further in.
Miceli and Sirmans argue that when developers need to purchase a parcel of land that is currently in the hands of several different and dispersed users, the costs increase because one or more of the current owners could try to "hold-out". Essentially, for either sentimental reasons or to try to steal profit/surplus from the developer, some of the current owners will hold themselves out from selling when the rest of the group does. These increased costs, and the risk of losing the entire development if even one current owner refuses to sell at any price, push developers of larger projects to bid for parcels at the outskirts of a city. (The typical monocentric city model indicates that lot sizes grow smaller toward the center of the city because of increases in price)
Because of these stubborn codgers holding out, we find ourselves forced into a position of sprawl. Developers must move outward if they want to build for a profit, because the true costs are not captured when there is a "hold-out". Now, is this a market failure? I believe it is more likely not a market failure, but an unfortunate risk of doing business. If we believe that the land will go to it's most highly valued use, it is clear that the current owner, however much a stick in the mud, values the land more highly than the developer is willing to pay. Just because you neglect to factor for a risk of doing business, it is not an automatic failure of the market.
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Many economists have thought the "hold out problem" was an economic justification for giving government the power of eminent domain. So, for the authors to suggest some sort of market failure in this regard doesn't seem to me much of a stretch.
On the other hand, I think your suggestion is the better conceptual view, although I don't think the risk of business to the buyer is quite on the mark. Your suggestion that the seller has to choose whether or not to sell seems the sound way to do the analysis. The seller values the land and has to decide whether his value is larger or smaller than the developer's offer. The seller may try to get a bit more out of the developer because he thinks the developer is in a weak negotiating position, but then the seller risks missing out on a deal that might have given him more for the land than his personal value for the land. It is after all the seller's land and if his risk preferences are such that he takes a risk and loses out on a profitable exchange, then I think the implication is that his risk adjusted value for the land was larger than the offer on the table.
Of course, the "hold out problem" tends to be argued by economists by using a static model without spatial location at issue. If we consider location, and the question of most highly valued use for each parcel, then I think the efficiency aspects of the "hold out problem" tend against the conclusion of market failure.
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