The Land Cycle:

Can we forecast the economy's next big move
based on past trends?

Jeffery J. Smith

[A presentation to the Eco Friendly Business Owners Network, Health Quest Spa, Center for Natural Medicine Monday, 10 December 10, 2007]

Our next speaker is a charter member of the International Society for Ecological Economics. While he has done a bit of teaching at a local community college, has presented often at academic conferences, and has a contract to produce a college textbook, unlike most members of the ISEE, he's not a college professor. Instead, he gets grants from foundations to research the flow of payments for land and resources, writes articles, and promotes legislation. The last few sessions his group, the Forum on Geonomics, has had bills in Salem to advance the "green tax shift" (tax waste, not work). Please help me welcome Jeff Smith.

Fellow Portlanders, thank you. As business people, you entrepreneurs (the word our president claims does not exist in French) have my admiration. You can make money by offering others something of value.

You also have my envy. Making money, doing what you want, while employing others - not everybody can do that. I can't. I am not a businessperson. Instead, I have a small local nonprofit that raises awareness about policies that benefit everyone, including eco-friendly businesses.

Once, I did raise a lot of money - by my standards - $10,000 in one hour at a fancy banquet. But that was for an organization I volunteered for, Friends of the Earth, nor for myself. And it took many more hours to get all those rich people to sit down together at one time and one place.

Nor am I a trained economist. What I know I learned on my own. Yet I have attracted trained economists to my organization, one, Ed Clarke retired from the OMB, who once was considered to be on the short list for the Nobel Prize.

By the way, you know there is no such thing, right? Alfred Nobel never set aside any of his dynamite fortune for economics. The money for that prize comes from the bank of Sweden and other central banks. They call it a Nobel Prize to, what, cover their tracks?

Amateur that I am, I can follow my curiosity wherever it leads me. While researching the roots of economics, I came across this discussion. An economist, a philosopher, a biologist, and an architect were arguing about what was God's oldest profession (unlike ours). The philosopher said, "Well, first and foremost, God is a philosopher because he created the principles by which man is to live." "Ridiculous!" said the biologist "Before that, God created man and woman and all living things so clearly he was a biologist." "Wrong," said the architect. "Before that, he created the heavens and the earth. Before the earth, there was only complete confusion and chaos!" "Well," the economist snorted, "where do you think the chaos came from?"

You know the others, how if you laid all the economists in the world around the circumference of the earth they'd never reach a conclusion. And how Harry Truman always wished he had a one-armed economist so the guy could never be ambivalent and always say, "well, on the other hand." And economists have been able to predict five out of the last four recessions.

So I wanted to make a break from economics and came up with geonomics, sort of like ecological economics with an emphasis on all the money we spend on the nature we use. While researching land-focused economics, one piece of information I came across that should be marketable - that is the 18-year land price cycle. Armed with this information, one can make much more money, even now that the bubble has burst, no matter what phase the business cycle is in. Indeed, one of the first researchers to note this pattern, Homer Hoyt, about a century ago, still has a company run by his grandchildren down in Florida making good money as investment consultants.

What I like about the dependability of forecasts based on the land price cycle is that it suggests the rest of the geonomic theory and analysis is correct, too. And that policy based on that understanding would work to the betterment of all, too. Indeed, every place that has tried any degree of geonomic reform - mainly cities in Pennsylvania, Australia, Denmark, and Taiwan - have done quite well.

Those policy proposals are based on how economies actually work. Unlike most proposals, our reform is not conjured out of thin air, the way most economists and politicians work - I mean, like, Bush's WMD's or the national bureau of statistics' GDP, criticized even by Nobel laureates. We arrived at our conclusions based on science, on studying the cycles in economies. This is our economic message.

Our starting point was trying to solve our species' assault on nature but look, the reason people beat up on our natural world that sustains us all is not because humans have a grudge against Mother Nature (OK, some people hate spiders and camping), but the destruction is incidental. It happens when we're just going about our jobs, producing for our needs - which is the economy. So, it's our economy vs. our ecosystem. We need a new economy, if we're to keep this planet habitable.

To understand economies better, to know what we're up against, we started at square one. Very simply, the economy is people spending and earning money. That flow of money is not stable but it fluctuates; sometimes we spend more, sometimes we spend less. That's our business cycles of various lengths.

Business cycles should interest business people but also nature lovers like me. Not just because, when business is bad, people are more likely to put their jobs and investments ahead of the ecosystem's constraints. But also because, understanding the cycles in economies, and the cycles in ecosystems, lets you see that the same cycles operate in both venues, that economies are actually subsets of the larger natural world, and that nature bats last.

Economists who study business cycles do so at their own risk. Remember Gregory Mankiw? Recently he was Bush's chief economic advisor. Even as busy as he was, he was kind of enough to answer my email and send by regular mail a copy of his paper. Eighteen years ago he wrote a paper with a buddy of his from Princeton that predicted the present deflation in housing prices. Not a bad guess. But when he issued his prediction nearly 20 years ago, his colleagues lambasted him. How dare he, albeit a professor at Harvard, predict the future! That's what astrologers do.

True, but prediction is a crucial step in the scientific method. And being unable to do it is one reason why economics is not a science but an art or superstition, as John Kenneth Galbraith, the world's best six foot seven inch Canadian economist, said. Most economists loathe predictions because most of theirs are wrong by a long shot and when one of the fraternity gets it right, he makes everybody else look bad.

Nevertheless, economists have noted cycles of various lengths and the shorter ones get the most attention, as well they should. But the business cycle that has the highest highs of prosperity and the lowest lows of recession is the land-price cycle, sometimes called the real estate cycle. It's length, or period, is eighteen years.

That's not a rigid eighteen years, like a week is seven days. Economies are more like what Mark Twain said about history. History doesn't repeat; it rhymes. Economies are like the weather. You have recognizable seasons, but lots of variety, too; some years you have a long winter, some years short. So it's not clockwork, or everybody would notice it, but there is a pattern, and it's long enough, 18 years, so that most people don't pay it any attention.

The other cycles that economists write about are:

• the one of four plus years discovered by a Harvard professor, Joseph Kitchin, the Kitchin Cycle
  
• one of about nine years discovered by a Frenchman in the Victorian Era, Clement Juglar
  
• this 18-year cycle discovered by Russian-born Samuel Kuznets, Nobel laureate who practically invented the Gross National Product, but he didn't put real estate in the driver's seat as we geonomists do (he quit his job when the government would not include housework, then typically women's work, in the official formula, so a feminist before his time)
  
• and the roughly 54-year cycle of another Russian, discovered Nikolai Kondratieff.

Unlucky man, he was Stalin's chief economist, a job you can't just quit. Stalin asked him when capitalism would finally collapse. So Kondratieff studied the price swings of the major products of the major Western economies going back centuries, then had his meeting to report his findings to the leader of the Red World. He told Stalin that there was good news and bad news. The good news was that capitalism did collapse and would again. The bad news was that it always resurrected itself. For all his meticulous and exacting dutiful labors, Stalin banished Kondratieff to the gulag where he suffered and died. Boy, and Western economists like Greg Mankiw think they have it bad for daring to predict; and most should probably suffer for their art.

Another historical aside, this from my ex-father-in-law who was a member of the Politburo. Do you know how the ruble got to be worth $1.25? One day during a top level meeting, one of Stalin's top men returned from Switzerland during the winter where he'd bought a new hat and wore it into the meeting. Stalin asked him about, told him to hand it over, and asked how much it cost? Quaking, the guy Stalin. Stalin snorted and said Russian hats are better than this. If this cost ten livre, ours should cost twelve and half. He slammed his fist on the table and that's what set the official exchange rate for rubles to the Western currencies.

Another cycle of greater interest to historians than economists and business people lasts longer than the average life span. It was found by Boston University professor David Hackett Fischer who authored the very readable book, The Great Wave: Price Revolutions and the Rhythm of History. In the modern West, he noted four major waves, the Renaissance, the Enlightenment, the Victorian Era, and the present, still unnamed (the Electricity Age?). Each had similar beginnings of struggle, similar middles of prodigious art and invention, and similar ends when the elite squandered society's credit, spurring a rise in crime, repression, war, and revolution. Sound familiar? For statisticians, accountants, and economists, he found a perfect corollary of bastardy, representing the breakdown of social norms, with inflation, like a shadow on the graph; inflation up, disintegration of family ties up, step by step. Now, it's been about a hundred years since the end of the Victorian Era so we could be in for exciting times, living thru the final days of what, the Oil Era?

Enough doom and gloom in the future, let's look at doom and gloom in the present and our key cycle of 18 years. It was not just Greg Mankiw but others, too, who spotted this 18-year cycle.

• Remember Hermann Kahn? He was a presidential advisor on using nuclear weapons, telling the guy with his finger on the button when the unthinkable was thinkable, when it made sense to drop the big one. For whatever his reason, he left that job and got into economic forecasting. He, too, found an 18-year period and used it to predict the year 2000 stock bubble bursting. When did he do that? In 2001 you quip? No, back in 1983.
  
• Another guy using the 18-year cycle who predicted the stock bubble bursting was a year off, choosing 1999, but that guy, Samuel Benner, made his prediction in '75 - not 1975 but 1875, so you can forgive him for being a year off.

While these researchers and others found an 18 year cycle, not all of them attached it to housing or real estate or land, as we do. Why? If you look at the size of the various markets for absorbing surplus, for savings and investment, the biggest is not stocks, not bonds; they're not even close. The biggest is real estate - homes, apartments, hotels, offices, shops, malls, schools, factories. Plus, the value of stocks includes the value of the real estate holdings of the corporations.

Because real estate costs a lot and everybody wants some, it's the biggest part of our economy. Go to the government's website for statistics and you see that FIRE, which stands for Finance, Insurance, and Real Estate, is over 40% of our GDP of over $13 trillion dollars - almost enough money for another war in the Mideast. Because of its size, real estate or housing but it's really land or location, drags the rest of the economy along in its wake.

While we say real estate or housing it's really neither. What's the most expensive input in construction? Depends on what part of the country you're in, but labor and materials are relatively flat, costing almost the same everywhere. What changes is the land.

What does the price depend upon? The three most important things in real estate: location, location, location. In growing area like Portland, location can be 80% of the price. In a place losing population like Iowa, the building would be 80% of the price. In the past five years here, prices doubled. Did the size of the house double? Did the house reverse aging and become less worn out and half as old? No, demand for the location went up.

Some commentators wax ecstatic over real estate booms. The mayor of Melbourne Australia said, "how do I know the economy is doing well? I look out the window and see all the construction cranes." Actually, he's completely wrong. When the biggest projects that take the most time finally get off the ground and are the most numerous, that's the peak. If it's darkest before down, it's also brightest before dusk. Indeed, every new building heralded as the world's tallest has always coincided with recession, the Empire State Building opened when the Great Depression bottomed and now we have a new record breaking building one and a half times taller nearing completion in Dubhai. An Asian economist in Hong Kong, noting this indicator of new biggest buildings dubbed it the Election Index, his mispronunciation saving everyone a lot of embarrassment.

While a building's height does not cause recession, what does?

• A definite factor is a central bank, in America the Federal Reserve, raising interest rates, making the cost of borrowing and doing business more expensive; a year or two later, growth slows, even reverses.
  
• Another cause or corollary or catalyst is the bond yield inversion, when short-term bonds briefly have to pay higher dividends than long-term bonds.

But these are more indicators than causes. Each recession, the pundits select a different cause, whether it's credit crunch or oil prices or tariffs or the dust bowl and in truth, all those are factors. But you never hear much about the 18-year land price cycle, which has been in operation now for centuries.

My colleagues have been researching only since the last cycle, in the mid 1980s. They have unearthed a ton of data that flesh out these cycles with hard figures. And they are confident enough to make their predictions in print. Remember last cycle when if you could afford to buy all of Japan once, you could have bought America four times? When Tokyo real estate got that far out of sight, one of my colleagues laughed at those touting the Rising Sun taking everybody else over and wrote that no, that's when the Japanese economy was heading south. Looking back, we all know what happened. Japan even had deflation; it's central bank paid member banks to borrow money!

So the 18-cycle does have some regularity. Why? Here's why. You didn't make land. You don't know anybody who made land, unless you're on a first-name basis with Jehovah (and if you are, please put in the good word). Since no human made land, land has no production cost. It has zero production cost. But land is not the only thing you buy. You also buy things that humans do produce, such as clothes, cars, computers, buildings. However, as the cost of land, read location, rises, you have less money to spend on lattes and micro brews. So others have less reason to produce socks and sandals. So as the price of land rises, sucking more money out of the rest of the economy, eventually you reach a point where the rest of the economy shrinks, which technically is called a recession. As long as you have a land-price cycle of wild booms and busts, you must have a recession.

Why is the cycle 18 years? Nobody knows. It got started to coincide with mortgages. Know what mortgage means? It's French, like entrepreneur, for "death pledge", because back when most people died at 40, the devoted most of their adult working lives to paying for land. Get married, buy land, then work 18 years, the rest of your life, to pay it off. But why now, centuries later, is the cycle still 18 years? For some reason, that's how long it takes speculation in locations to suck the all the savings out of an economy and put a critical mass into debt, the modern version of servitude.

Even conventional economists admit that every housing downturn (actually, locations losing value) has been followed by a recession. Now you know about the 18-year cycle. So you can count from the last downturn in "housing" (location) prices and you know sometime next year we'll be in negative growth, the official definition of a recession.

So, what are you going to do about the impending recession? You don't have to be hurt by a recession. Indeed, three of the top ten years for the stock market were in the Great Depression, mainly due to having so much ground to make up.

Using this cycle information, you can tell in broad strokes when to buy long and sell short. Indeed, you can move your fortune or savings around in a triangle of bullish on stocks and bonds and bearish on other sectors, then bullish on residential then commercial real estate and bearish on the others, then bullish on gold and the biggest currency and bearish on the rest, and you can see where gold and the euro are now.

While it's gratifying to see reality bear out theory, one that you've embraced for years (I predicted this to my class at PCC years ago), I think right now I'd be more gratified if I'd followed my own advice, but I'm the kind who prefers learning and proselytizing for a better world. When will I ever learn? Probably when I no longer have to pay alimony.

If you have a mind to delve into this sort of thing, in greater detail is the investment clock, each hour referring to land prices and interest rates, stocks and commodities, and cash reserves and credit access, going up or down. If you have the psychology for it to keep your stops in place and to buffet the swirls and eddies, then each phase of the cycle, you can park your money in the safest enterprise and go long or short and become a little Warren Buffett or George Soros.

On that clock, two of the hours were cash reserves, something that Americans noted not at all when the dollar was the dominator, but now that euro is assuming that role, our government might have to follow Warren Buffett's and George Soros' lead and stockpile that currency. You probably know that currency traders are completely indifferent to these longer cycles; they've totally forgotten how to count to eighteen. They have computer programs that trade their stash every minute, or less, around the clock, twenty-four seven, never tiring of making that fractional more money.

But if you feel bad about making money off misery when everyone else is mired in recession, we don't have to have a recession. One simple policy change is to recognize that within a property, the part that inflates in value is the location. Despite this being true, government assessors, God bless'em, often ignore the fact. They over value the building and under value the land. Which is a huge gift - or subsidy - to people who do a lot of real estate deals and can depreciate the building over and over. But remember, every tax exempts more than it collects. So if you're not claiming depreciation, interest payments, etc, then you're paying for somebody else who is.

And these tax breaks don't save buyers money; they make sellers more money. Tax breaks merely let the price of land rise, benefiting sellers. Repeal the breaks and the price of location falls, benefiting the buyer - not to mention the public treasury.

Besides correct assessments, you can adopt geonomics, shift around taxes and subsidies, and discourage speculation in never-produced land and instead encourage investment in human-produced goods and services. Don't tax income, charge polluters. Don't tax sustainable business, charge extractors. And don't tax buildings but charge the owners of locations.

That last tax shift is the least transparent but the most powerful. With it in place, if you fix up your building, you don't increase your tax liability. And if you'd be speculating or procrastinating, you're prodded to get busy, especially if you own a prime central site. That in-fills cities which is great for business and the environment both. Better land use from shifting the property tax would spread prosperity and smooth out the business cycle. Instead of boom bust it'd be more like climb and glide.

It'd put my nonprofit out of business, but I wouldn't mind. With so many investors leaving land speculation and getting into new ideas, it sure would be easy for us creative types to make a living, get good at business. We'd give the word entrepreneur renewed meaning, so the French or anybody could grasp it.

If you'd like more detailed information about investing using the land-price cycle, that's what my colleagues charge a lot of money to do. But for the next ten minutes, I'd be happy to discuss any of this with any of you.