Architecture and Evolution: VIII. The Value of Beauty and How To Profit From It

In this article, the last of this series, I delve into the economic value of traditional architecture and how to monetise it.

This article builds on the previous articles of this series. For an overview of what constitutes architectural beauty and why, see parts I to VI. For an explanation of what this teaches us about modern architecture, see part VII.
Because this article approaches architectural beauty from an economic perspective, some readers may find it difficult to understand. Although it is impossible to make the economics of architecture understandable to the layman, I have made an effort to explain the matter as simply as possible. Nonetheless, this article is mainly intended for urban planners, real estate developers and investors, economists and policy makers.

In this article I explain:

1.       How traditional architecture impacts the value of properties

2.       Why the value of architectural beauty is significant

3.       What can be done to make the built environment beautiful again

4.       How developers can use traditional architecture to improve their financial results

As explained in parts I to VII of this series, there is enough evidence from survey results, evolutionary psychology and neurology showing that architectural beauty impacts our well-being, what criteria architecture needs to satisfy to be beautiful and why modern architecture does not satisfy these. From clear patterns in consumer behaviour, such as patterns in international tourist traffic, it is also evident that traditional architecture is valued greatly worldwide.
But there is also a cost to architectural beauty, and whether its value exceeds this cost is an economic question. Though we are safe to assume so because traditional architecture is not necessarily more expensive to build than modern architecture, the question remains whether the public’s preference for traditional architecture is significantly reflected in the prices they are willing to pay for it. This is important, because the answer to this question determines how the built environment should look.

The Power of Prices and the Problem of Externalities

As with the design of all kinds of products, architectural design involves trade-offs, in this case sometimes between beauty and efficiency. When deciding where to live, people consider all the criteria that matter to them, ranging from beauty to the presence of schools and public spaces. Their preferences are reflected in the prices they are willing to pay for property, as well as the costs of building and maintaining it.¹ In a well-functioning economy, what is most profitable for developers to build is what is preferred by the consumers. How developers should make trade-offs is then dictated by consumer preferences. Through the price mechanism, consumers communicate their preferences and compel producers to design their products accordingly.

But unfortunately, the real estate market does not always function properly. This is because the value of real estate is affected by so-called ‘externalities’.
Whereas most costs and benefits confer to the people who create them, externalities are costs and benefits that confer to another. ‘Negative externalities’ or ‘external costs’ are costs borne by people other than their creator, mostly without their consent, whilst ‘positive externalities’ or ‘external benefits’ positively affect people other than their creator. Whereas someone takes most costs and benefits associated with his choices into account when he makes his decisions, this does not apply to externalities because they don’t affect their creator.

Unrestricted negative externalities can lead to sub-optimal outcomes. For this reason, externalities are mostly regulated. The noise coming from nightclubs and bars, for example, creates negative externalities. They negatively affect the value of properties around the venue by depriving people of their sleep. One is typically not allowed to start a nightclub or bar in just any place. Likewise, it is rarely permitted to set up a highly polluting factory in the middle of a residential area.

There is also the possibility of someone creating external benefits, or ‘positive externalities’. For example, kind neighbours can make a neighbourhood more attractive to live in. A property owner restoring his property and thereby making a neighbourhood more beautiful also creates positive externalities. Depending on its beauty, architecture can also create positive and negative externalities.

Externalities are important in this context, because not only does the architectural design of a building impact its own value - It can also impact the value of other properties. Like the externalities created by nightclubs and polluting factories, the externalities of architecture are therefore used to justify regulations that restrict architectural design. Historical preservation laws are a common example.

The Numbers Are Clear

The question that matters to developers, urban planners and policy makers is whether the value of beauty exceeds its cost. But since the value of architecture is mostly external, answering this question is difficult.

Most people prefer traditional to modern architecture² and since traditionally designed buildings are not necessarily more expensive to build, we can conclude that avoiding modern designs most likely leads to more value than costs. But will this net value accrue to the owners of beautiful properties, or will it only increase the value of the properties of his neighbours? In other words, is it profitable to build beautifully?
Furthermore, even if avoiding modern architecture likely leads to a more enjoyable built environment of higher financial value, this does not tell us how elaborate traditional designs would ideally be. Whereas the pretty colonial houses of Charleston, South Carolina (figure 8.1) are not more expensive to build than any modern alternative, this does not necessarily count for the beautiful cathedrals and pieces of public art that have been built throughout the centuries. In the latter case, the costs of their beauty could in theory exceed its value, but whether this is the case we do not know. Whereas we can conclude that a policy banning modern architecture whilst allowing traditional architecture will not decrease and likely increase property values, so far it is unknown whether obliging developers to build elaborate, highly ornamented buildings at higher costs will do the same. And more important is the question whether the positive impact of traditional architecture on property values is significant at all. Beauty matters, but does it matter much?

Figure 8.1. Colonial architecture in Charleston, South Carolina.


To know whether the value of architectural beauty significantly exceeds its cost, it is important to consider both the non-external and external values of architecture. Ascertaining this is difficult but not impossible. The size and scope of externalities, i.e., who they affect and to what extent, are difficult to estimate but sophisticated statistical methods exist that can come a long way. These methods have been used to determine the externalities of many aspects of the built environment, such as parks, street trees and factories. They have also been used to approximate the value of architectural beauty.

The results are in line with what has been shown in the previous parts of this series: Traditional architecture has a significant, positive effect on surrounding property values: One study (Ahlfeldt and Holman, 2017) found the ‘distinctiveness’ of UK conservation areas to have a positive effect of up to 25% on the square foot prices of properties located within them, which the researchers conclude to be at least partly due to the quality and age of their architecture. They also found conservation areas to have positive external effects on properties outside but facing them. Another study (Ahlfeldt and Maennig, 2010) found the architectural amenities of heritage-listed properties in Berlin to create significant positive externalities.

Besides these, many more studies have found mostly positive and sometimes neutral effects of conservation area designation on property prices whilst finding large positive externalities resulting from traditional architecture, mostly ranging from +10% to +25% and in one case as large as +26% (Asabere et al. 1989, Leichenko et al. 2001, van Duijn and Rouwendal 2012, Moro et al. 2013, Lazrak et al. 2014, Franco and Macdonald 2018, Yang Zhou 2019). The neutral effect of conservation area designation found in some studies is easily explained by the fact that although traditional architecture is more valuable, old buildings typically cost more to maintain. Whether conservation area designation itself positively affects property prices depends on whether the value of the beauty of historical buildings exceeds the associated maintenance cost premium, by how much and on the subsidies and restrictions associated with conservation area designation.
In all studies, the net effect of historic area designation on properties within historic designation areas has been found to be non-negative and in most cases significantly positive, ranging from +10% to around +25%. This is accompanied by positive spill-over effects that have been observed, i.e., value added by designation to adjacent non-designated neighbourhoods. These insights all suggest that the effects of regulations protecting cultural heritage are significantly net-positive.

Some of these studies have also found positive externalities resulting from renovation works specifically. This has been further confirmed by other studies (Clark and Herrin 1997, Koster and Rouwendal 2017, Turnbull et al 2019), which found public investments in (maintaining) historic amenities to lead to increases in property prices far exceeding their costs. This indicates that the effects of revitalisation efforts can also be expected to be net-positive.

Other research has found that people with high incomes are more likely to settle in city centres if these centres possess valuable amenities including traditional architecture (van Duijn and Rouwendal 2012, Koster et al. 2013, van Duijn and Rouwendal 2021). This confirms the theory of Brueckner et al. (1999) which posits that income groups sort according to the presence of such amenities. More specifically, this literature shows that whilst all income groups value the beauty of historical architectural amenities, the rich tend to price out the poor where these amenities are most present. This corresponds to research that found traditionally designed buildings to appreciate faster than modern buildings (Smith et al. 2018), suggesting that traditional architecture can function as a catalyst for gentrification.

Important Insights

We can draw the following important conclusions from the literature referred to above:

1.       The traditional architecture of historical buildings creates positive externalities that significantly exceed the costs of maintaining them.

2.       The net economic effect of historical preservation is virtually always positive.

3.       We are safe to conclude that the net economic effect of cultural heritage renovation works is also positive.

4.       Whereas all economic classes prefer to live in areas with traditional architecture, the rich tend to end up living in historical neighbourhoods due to their higher purchasing power. This corresponds to the fact that the willingness to pay for living in areas with cultural heritage increases in income. Therefore, high concentrations of high-income residents can point us to what architectural styles are most preferred. But bear in mind that other factors such as accessibility and the presence of schools and parks are also part of their considerations.

5.       From the facts that both the non-external and external value of traditional architecture has been shown to be significant and that traditional architecture does not necessitate higher development costs, we can infer that a solution that effectively bans modern architecture will likely have a net positive effect on property prices. But this does not yet imply that architecture should be regulated by the government.

As for specific materials used and the degree to which architectural designs should contain ornament, we have no quantitative answer.

Nonetheless, the conclusions above deal an important blow to the proponents of modern architecture. Not only do survey results and neurological and (evolutionary) psychological findings show that modern architecture is inevitably unappealing – The economics confirm this as well. Developers and policy makers must be cognisant of this if they aim to maximise their profits and tax revenues respectively.

From the above, one could conclude that a ban on modern architecture would likely increase total economic value. Just like a ban on polluting factories in residential areas attempts to resolve the question of externalities in that space, a ban on modern architecture is very likely to improve the value of the built environment.
But this also depends on other factors. In light of the fact that restrictive government policies with respect to architecture can lead to rent-seeking (Ahlfeldt et al. 2014), is a government ban the best solution?

Market Solutions

In 1960 Ronald Coase, an economist, wrote a paper called ‘The Problem of Social Cost’. In this seminal work, he proved how under certain circumstances (that is, the absence of transaction costs) the market will solve the problem of externalities, leading to the ideal outcome – The outcome most preferred by the consumers. To achieve this, ‘agents’, in this case property owners and developers, would bargain to establish the appropriate contract that internalises all externalities.
In the real world, transaction costs are positive. The conditions necessary for all externalities problems to be solved will therefore never be satisfied. But Coasean bargaining has nonetheless been observed to regulate externalities to some degree. For instance, in the relatively unregulated property market of Houston (TX), many property owners have agreed to preserve the aesthetic quality of their neighbourhoods through collectively signing deeds. This solution comes at a cost, but it shows how Coasean bargaining is not completely unrealistic.

One issue with these deeds is that they have to be created, signed and sometimes updated and signed again. This involves transaction costs. Not only do deeds have to be made, signed and enforced, requiring time, money and effort - At some point the deed may have to be changed. New research could highlight the value of some specific architectural styles, materials or degrees of ornament and thereby justify replacing the old deed with a new one.

Another issue is that not all property owners may be informed of the value of architectural beauty, much less what must be specified in a deed to maximise its net value. Making the right contract requires property owners to do the tedious work of studying and keeping up with the science of architecture, such as I have done in preparation of writing this series. Not every property owner may have the time and know-how to do so, further adding to the difficulty of deeds as a solution to the problem.

An Opportunity for Developers

Some new developments have already demonstrated the superior financial performance of traditional architecture, the most notable of which being Poundbury in Dorset, UK. This new and entirely traditionalist project, lead by the Prince of Wales, has proven its critics wrong by delivering astounding financial results. Real estate firm Savills estimates new build values in Poundbury to exceed those of other new build schemes in the area by nearly 29%. This is perfectly in line with the numbers referred to above. Furthermore, since Poundbury is a new development this further supports the view that these price premiums mostly result from its traditional architecture, next to other unique features such as its excellent walkability.

A solution could is therefore not unlikely to come from developers. Their profit motive gives them an incentive to study the science of architecture since this would enable them to achieve far superior financial results. This does not only apply to large-scale developments whereby developers build entire neighbourhoods – By acquiring buying rights on properties around their newly built beautiful developments before development starts, they can profit from the positive externalities they create without incurring large transaction costs. Developers should therefore take note of this opportunity, by knowing the importance of architecture and what the science says about beauty.

Government Solutions

The transaction costs of Coasean bargain prevent property owners and developers from solving the externalities problems by themselves. Besides, internalising externalities through purchasing options also involves transaction costs. Lastly, the external effects reach very far, to a city-level, regional and possibly even national level. Internalising all the externalities and contracting with all the affected parties is therefore prohibitively costly.

But government policy solutions do not have this problem. A more efficient solution may therefore be to centralise policy making and enforcement at the level of government. In this case, a specialised authority would study the relevant scientific literature, formulate appropriate policies and ensure efficient and effective enforcement. This option is pursued in related cases such as in preserving architectural heritage, but can lead to the usual problems associated with government solutions such as inefficiency and corruption (Ahlfeldt et al. 2014).

Many governments have chosen for this kind of solution in order to protect their architectural heritage, but the relevant scientific literature has not yet informed their policies with respect to new developments. This seems to be changing somewhat in the United Kingdom, with the Building Better, Building Beautiful commission and some Conservative MPs leading the charge. But these efforts have not yet been successful at scale.

Representative governments are unlikely to pursue the maximisation of property values. They simply have no incentive to do so. But a proprietary government, a government with shareholders instead of voters, does. Like shares in any other type of company, the shares in a proprietary government typically end up in the hands of investors who pursue financial profit. A well-informed proprietary government would thus regulate architecture to maximise the value of its jurisdiction, solving the externalities problem.

Conclusion

Through informed profit maximisation, developers and proprietary governments could thus hold the key to a more beautiful, valuable built environment. They can change the architectural profession by hiring the right architects for the job. The architecture schools, of which most unfortunately only teach the ideology of modernism³, can thereby be compelled to make the necessary changes to their curriculums. The age of modernism can be over soon, making way for a new era of beauty. All it takes is that governance is provided by for-profit private entities or that developers inform themselves of the great financial rewards of building beautifully and act on it.

References:

Ahlfeldt, G.M. and Maennig, W. (2010). Monument Protection: Internal and External Price Effects. Hamburg Contemporary Economics Discussions No. 17

Ahlfeldt, G.M. and Holman, N. (2017). Distinctively different: a new approach to valuing architectural amenities. The Economic Journal . ISSN 0013-0133

Ahlfeldt, G.M. et al. (2014). Game of Zones: The Political Economy of Conservation Areas. CESifo Working Paper No. 4755

Asabere, P.K. et al. (1989). Architecture, Historic Zoning, and the Value of Homes. Journal of Real Estate Finance and Economics, 2:181-195 (1989)

Brueckner, J.K. et al. (1999). Why is central Paris rich and downtown Detroit poor? An amenity-based theory. European Economic Review 43 (1999) 91—107

Clark, D.E. and Herrin, W.E. (1997). Historical Preservation Districts and Home Sale Prices: Evidence from the Sacramento Housing Market. Review of Regional Studies, Vol. 27, No. 1 (Summer 1997): 29-48. Southern Regional Science Association 1997

van Duijn, M. and Rouwendal, J. (2012). Cultural heritage and the location choice of Dutch households in a residential sorting model. Journal of Economic Geography 13 (2013) pp. 473–500

van Duijn, M. and Rouwendal, J. (2021). Sorting based on urban heritage and income: Evidence from the Amsterdam metropolitan area. Regional Science and Urban Economics 90 (2021) 103719

Franco, S.F. and Macdonald, J.L. (2018). The effects of cultural heritage on residential property values: Evidence from Lisbon, Portugal. Regional Science and Urban Economics 70 (2018) 35–56

Koster, H.R.A. et al. (2013). Historic amenities, income and sorting of households. Journal of Economic Geography 16 (2016) pp. 203–236

Koster, H.R.A. and Rouwendal, J. (2017). Historic Amenities and Housing Externalities: Evidence From the Netherlands. The Economic Journal, 127 (October), F396–F420

Lazrak, F. et al. (2014). The market value of cultural heritage in urban areas: an application of spatial hedonic pricing. J Geogr Syst (2014) 16:89–114

Leichenko, R.M. et al. (2001). Historic Preservation and Residential Property Values: An Analysis of Texas Cities. Urban Studies, Vol. 38, No. 11, 1973–1987, 2001

Moro, M. et al. (2013). Does the housing market reflect cultural heritage? A case study of Greater Dublin. Environment and Planning A 2013, volume 45, pages 2884–2903

Smith, N. B. et al. (2018). Beyond location. Land Journal, 2018 (April/May), 12-14.

Turnbull, G.K. et al. (2019). This Old House: Historical Restoration as a Neighborhood Amenity. Land Economics, May 2019, 95 (2): 193–210 ISSN 0023-7639; E-ISSN 1543-8325

Zhou, Y. (2019). The political economy of historic districts: The private, the public, and the collective. Regional Science and Urban Economics 86 (2021) 103583

1. Which are themselves also determined by the preferences of the consumers. If consumers prefer an alternative use of certain factors of production over their current use, the producers putting them to this alternative use will outbid those that put them to their current use. See for reference Ludwig von Mises, Human Action.

2. See for reference article VII of this series, titled ‘The Inevitable Failure of Modernism’.

3. Ibid.