Why Are Housing Prices So High in Israel?

Not enough land being released by the authorities? Bureaucratic barriers? Greedy capitalists? The list goes on.

Alon Ron

If you had to guess what percentage of land in Israel is built up, you’d certainly think it was a lot. Ten percent? Twenty percent? Maybe more.

After all, Israel is a small country with a population growing at a furious pace. Even worse, it was founded on the ethos of “we will clothe you in a dress of concrete and cement,” as poet Nathan Alterman put it.

He was talking about the taming of the land — its liberation and redemption. And over the past decade, our sand dunes, swamps and even beaches have been covered with both towers and single-family homes.

Actually, only 4.5% of Israel’s land is built on today.

But this isn’t such a small number. Figures from the United Nations show that the average for both the entire world and North America is just 2%. In Europe and Africa it’s slightly less than 2%, and in the Asia-Pacific region it's almost 3.5%.

Land, from the beginning of the modern economy — in fact from the beginning of human history — has been one of the most important resources. Two hundred years ago, British political economist David Ricardo considered it one of the most important factors of production. In the Western world in those days, land was used mostly to produce food — and was owned mostly by the nobility.

Ricardo is the originator of the Law of Rent, the principle according to which rent — or the marginal profit produced by land — is obtained by using the site in its most productive use relative to the advantage obtained by using marginal land for the same purpose, given the same inputs of labor and capital.

In simpler terms, a farmer would agree to lease good land for farming at a price between what he could make by farming the land and what he could make by farming the next best land.

This economic rent for agricultural land today, especially in Israel, is being supplanted by a different type of rent that derives from the buildings that can be built on the land — whether to sell or rent out.

Land is a source of energy and food, as well as a place to build a house on. It can be private property, state property or property owned by entities such as the church or royalty. In Israel, 93% of the land is owned by the state; it’s held for the state by the Jewish National Fund, the Land Development Authority or directly by the Israel Lands Authority.

Lots of hurdles

Since only 4.5% of Israel’s land is built up, one might think there is a wondrous supply of land that could ease the plight of anyone looking to buy a home. But the road from the land to building a home is littered with problems.

The supply of private land faces hurdles such as ownership disputes, frozen inheritances and pollution. In some cases — as many people who have bought land in a gorgeous area have learned — you may own the land but can’t build on it because it’s in a nature reserve.

Israel’s population grew by more than 50% in 20 years, and the need for housing grew with it. In the 1950s Israel built a huge housing stock. This was repeated in the 1990s with the big immigration wave from the former Soviet Union.

Over the past six years, the average price for a home in Israel has climbed dozens of percentage points to 1.5 million shekels ($437,000), almost double the number in the United States. To buy an apartment in Israel you need 137 monthly paychecks on average — more than in the United States, Japan and Europe. Even at the height of the real estate bubble in Ireland, this figure was lower than in Israel.

The high price for housing reaps a huge socioeconomic price: a large increase in household debt, a shifting of resources to real estate instead of other forms of development, a reduction of purchasing power, and social unrest among the growing ranks of Israeli workers who can’t afford to buy a home. Rising housing prices also worsen economic inequality, since real estate has turned into a tax shelter and investment for the rich.

Is the price of the land, bricks and fixtures — the input price for building a new home — responsible for the rise in housing costs?

The foundation of a home is always in the ground — the land. In Israel, the land price makes up 30% of the home price on average, with another 1.2% going for purchase tax. As can be expected, various factors limit the supply of land and influence its price. One of the most important is planning.

Population density has grown and people want bigger homes. Urban problems have worsened along with the planning challenges: infrastructure systems such as sewage, water and electricity are under greater pressure, crowding causes friction between people, traffic is thicker, the education system must be expanded.

The planning bodies are meant to provide the balance between a variety of factors: the need to update cities planned decades ago, developers’ goal to reap maximum profits, quality of life and the environment. Add to all this the staffing shortage at the planning authorities and we get the bottleneck in new construction. Also the money sloshing around is a temptation for corruption, which too has a cost — that usually falls on the buyers.

The cost of construction is added to the cost of land and permission to build. At this stage the costs are influenced by the supply of workers and their expertise, the cost of building materials and the cost of bureaucratic delays. On average, the cost of construction makes up only 35% of the cost of a new home. You can buy this new home already built — or on paper. The developer gets his 12.7% cut.

Evil bankers

It turns out that the profit taken by the developer isn’t just a whim. TheMarker examined this question earlier this year and found that the banks, which finance much of new construction, dictate the minimum level of developers’ profits, about 15%, with little relation to how much risk the developer takes on.

As a result, a developer who is willing to take on a project for only a 10% or 12% profit is prevented from carrying out his plans because he can’t find a bank to get on board. Add to this the concentration of banking power in a very few hands and you get very high financing costs — much higher than in a competitive market.

The costs don’t end when the bricks are laid and the concrete is poured. When the apartment is finished we often have to pay purchase tax, betterment tax, capital gains tax, property tax, land registry fees and of course value added tax. On average, taxes and fees make up 21% of the price.

Congratulations. Now you can take ownership of your new home and move in, rest your head on a pillow and relax. But wait a minute, you still have property tax to pay and your mortgage to pay off. How much will your new home really cost you and how long will it take to pay it off? That’s the next question.