10.11.2022

The real value of forest exceeds the market prices

A widely cultivated citation attributed to Mark Twain - saying that “buy land, they're not making it anymore” - has been taken as a starting point for many investors considering investing in forest property. Another good argument for the purchase could be that the real value of forest exceeds the market prices.
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Theoretically thinking, land use markets are not perfectly competitive. Therefore, rational behavior of individuals does not necessarily lead to rational outcomes from the viewpoint of the whole society. For example, an essential part of the value of land to the society – i.e. value of carbon sequestration, ecosystem values, health values, etc. – is only seldom seen in the open market value of land. Thus, there is a market failure: the true value of forest is not included in land prices. 
 
The existence of market failure can be easily recognised when thinking on land use changes. Regardless of the fact that policies, as well as the public opinion, are strongly against the conversion of land from forest to agricultural or urban use, landowners have a high motivation to do so. This motivation stems from the fact that the value of forest land is much lower than agricultural and urban land. 
 
David Brand, CEO and founder at New Forests, gives Australia as an example: the agricultural land may be worth USD 7.000 per hectare, but land under natural vegetation is only worth about USD 300 per hectare. The situation in Southeast Asia is even more drastic: a tropical lowland rainforest after a primary logging operation might be worth USD 400-500, which is the net present value of future potential timber revenues. However, if the land is approved for conversion to oil palm, it immediately becomes worth USD 5.000 per hectare, and once producing palm oil it can be worth USD 20.000 per hectare. Brand indicates that this is an economic arbitrage that leads to relentless pressure for conversion and the search for ways to circumvent restrictions on development.
 
The mismatch in valuation of different types of land is a core issue that needs to be thoroughly explored to be able to develop policies to tackle this problem. Then the market failures can be related to types of cashflow from land and policies that can shift this to encourage more money to go to nature-based solutions that deliver environment and social benefits.
 
Will the situation change in the future? In general, there exist three different ways to solve market failures: private market solutions, government-imposed solutions, or voluntary collective actions. Market solutions may include means such as certification that transmits the hidden values to the prices. Policy solutions could be, e.g., rules and regulation for carbon trade, public incentives for societal benefits or taxes for societal harm. An example on voluntary collective action is a payment to compensate carbon emissions by investing it to afforestation.
 
As the drivers of land use have evolved, also the role of land and the motivation for owning of land areas have evolved in the course of time. For the moment, there seems to be an obvious need for policies that drive land-use that delivers multiple functions rather than competition between one function-delivering landscapes.
 
The future policies should help landowners to develop climate-smart practices and support them through greater visibility for the climate benefits of wood products, which can store carbon sequestered from the atmosphere and substitute for emission-intensive materials.
 
Dr Pentti Hyttinen
CEO, PenTen Ltd