ntroduction
Land is a key factor of production in the assembly of property. This essay will first examine the supply and demand for land and housing, as this helps to explain how the market for land and housing works and how prices are determined. The second part of the essay will discuss how land prices are calculated. 
Supply
Land as a whole i.e. the earth's land surface, can be regarded as being fixed in supply. (Harvey and Jowsey, 2004) However, although the total amount of land in a country is fixed, this is merely the stock of land. Many factors influence the incentive to trade and the amount and price at which it is traded. There will be variations in the flow of land traded in the market at any given period of time. Therefore, Warren (2000) states that... 'when looking at development land, one should not expect there to be perfectly inelastic supply.' The supply of housing is primarily inelastic at least in the short run. This is partly because the existing housing stock is so large that any additions to this stock are likely to be insignificant in relation to the overall number of houses. Also, there will be a significant time lag in the process of getting new houses onto the market. Therefore, any change in demand will cause large fluctuations in price. In research carried out by Barker (2004) it was found that in the UK there is a 'weak response of housing supply to demand changes.' There is also growing evidence of a persistent inadequate supply. Planning policy has a very influential effect on the availability/ supply of land. A piece of land that does not have planning permission for development will be worth much less than the same piece of land which has planning granted for a development e.g. a house. If planning permission has been granted for a development which is even more profitable e.g. a block of luxury flats, the value of the land will be even greater. So, the use of the land determines its value. Demand
Demand for building land is a derived demand. Land is demanded because the developer or individual wants to build on it and expects to sell the completed development at an acceptable profit. Therefore, the price that developers/builders are willing to offer a land owner is dependant upon the state of the market for completed dwellings. This graph shows the supply and demand curves for housing and land. When there is a boom in the housing market, house builders will realise that as demand is high, they could build and sell more houses at higher prices. They will look around for more available building land and consequently the demand for building land increases and land prices rise. House prices rise from P1 to P2 due to a rise in housing demand from D1 to D2, The amount of houses built rises from Qh1 to Qh2 and the number of hectares of land rises fromQl1 to Ql2. Land prices are bid up from P1 to P2 to get land owners to part with their land Therefore the increase in land prices has been derived from the original rise in house prices. Demand for houses is influenced by many factors such as price, income, substitutes, complimentary goods, tastes, expectations macroeconomic policy and planning policy. Some of these factors will now be discussed in more detail: Income-if consumer incomes increase in real terms, more people will be able to purchase their own homes or move up the housing ladder. Complimentary goods-if a complimentary good, such as council tax is higher in one area compared to another similar location, people may be dissuaded from moving to the area with higher tax. Macroeconomic policies - These can influence the level of demand in property markets. Adjustments to interest rates can reduce or increase consumer demand as loans and mortgages become more or less expensive. Taxation may effect how expensive and /or profitable it is to invest in property e.g. due to taxation of development gains. Planning - Reinforcement of green belt policy could increase the demand for residential properties on the periphery of such areas, as these houses would be guaranteed a protected view. Decisions affecting transport will also affect the demand for property e.g. the decision to build a new motorway. This may decrease the demand for property along the roads route (planning blight) but may improve accessibility to towns that it links and increase demand there. Expectations/ hope value - Expectations of what may happen in the future are a powerful force behind demand. If consumers believe their incomes will rise in the near future they may increase their demand now rather than later. Expectations of future increases in house prices may encourage people to buy a house now rather than later when prices will be higher. Expectations could in themselves be self-fulfilling prophecies, for example if it is believed that house prices will rise at some future date this encourages present consumption. Thus a rise in the demand for housing will cause house prices to rise. Research by Barker (2004) emphasises the effect of expectations: 'New supply only accounts for 1% of housing stock, and so even measures that change new supply significantly would not have much effect on prices if it were not for the role of expectations. If policy changes alter perceptions about the future course of prices then the impact on today's prices is potentially much larger.' . Calculating the price of landTo calculate the price that can be bid for land, the builder/developer must first calculate how much the completed property can be sold for, and/or how much the rental earnings will be from it. ' A buyer will use information on future rentals/earning to calculate the present value they think the asset is worth. Buyers anticipating a higher stream of rental earnings pay a higher purchase price for capital assets.'(Begg et al, 2003) In long-run equilibrium the asset price 'is both the price at which suppliers of capital goods are willing to produce and the price at which buyers are willing to purchase.' (Begg et al, 2003) When the market value of the property has been estimated, costs/ factors of production in the assembly of property will need to be calculated e.g. construction materials, labour, cost of borrowing money. The price of land has to be bid above its next best use - this is the opportunity cost. Unless the builders' supernormal profit is sufficient to attract land from its next best use e.g. agriculture, the builder will not be able to build. The price a builder will be willing to offer a land owner is frequently referred to as the residual. This is the amount left over after profits and all costs have been taken into account. If house prices increase, higher profits may be taken, and there may well be increased building costs as more labour and building materials are demanded, but the amount of money left over to bid for land is also likely to be greater. Jowsey et al state that "Competition among developers ensures that any supernormal development profit accrues to sellers of the building sites in the form of higher land prices." (2004) The graphs below show what happens to the residual when the demand for housing rises. In these graphs, the demand for housing has risen from time period one to time period two. This price increase has encouraged new development, and the number of new houses being built has increased from Qh1 to Qh2. The overall revenue received by the builder has increased. Therefore, even if the builder's profit margin has increased and costs have risen it is likely that more will be available for bidding for building land. The excess left over, or the residual is shown by area X2P2E2D2 in time period two and this is larger than area X1P1E1A1 in time period one The residual valuation method has been criticised by some such as (Ball et al, 1998) they state that although the residual valuation makes sense as an accounting method "it is far less satisfactory as a theory of land price determination" they state that "the residual approach is to an extent fiction because within the calculation variables are artificially fixed whose values in reality are influenced by land prices." For example one variable is the size and shape of the building to be constructed. This is influenced by the land costs, so they say that construction costs are not known prior to land costs rather they are simultaneously determined. 
Conclusion
Supply and demand interact in the marketplace, and will allocate land resources according to 'the most profitable use relative to other land resources.'(Harvey and Jowsey, 2004) The equilibrium price will be the price at which suppliers are willing to produce and buyers are willing to pay. Different factors affect the supply and demand for land and housing. If supply is constrained e.g. by planning policies, or demand increases and supply cannot keep up, prices of houses will rise. Land prices do not determine house prices. It is land use which determines property value, and thus land value, as this is derived from it. The price which can be bid for land is determined by calculating the residual. So, the higher the value of the land use, the greater the residual and the higher the land price. 