Eminent Domain Economics: Should 'Just Compensation' Be Abolished, and Would 'Takings Insurance' Work Instead?
88 Pages Posted: 14 Apr 2005 Last revised: 16 Aug 2021
Date Written: August 1, 2003
In a defeat for staunch property rights advocates, the Supreme Court ruled this spring that a prohibition on land development in the Tahoe basin did not amount to a de facto taking of land such that the constitutional mandate of just compensation was triggered. The Tahoe decision highlights the struggle in eminent domain jurisprudence over the proper treatment of so-called regulatory takings. It has long been taken for granted that when the government exercises its power of eminent domain to take private property in the name of the public good, it must reimburse displaced landowners. While compensation for physical takings of land is thus rarely subject to serious debate, the same cannot be said when the state utilizes its police power to regulate for the public benefit. Often, zoning ordinances banning commercial or residential development effect similar financial hardship on property owners as an outright procurement of their land would - either way, their entire land value is frequently destroyed. In the past decade since the landmark Lucas case was decided, the Supreme Court accommodated this reality by mandating just compensation for any regulatory action that deprived a property owner of substantially all economically beneficial or productive use of land Now, after Tahoe, even that high threshold may not suffice to garner any compensation for regulatory takings.
The real question is: what should be done about compensating for eminent domain actions? This paper argues that society must no longer take the just compensation requirement for granted. Rather, a critical analysis of the effects of guaranteed state compensation reveals that it creates socially perverse incentives for landowners to excessively improve their land, and that government reimbursement is necessarily accompanied by non-trivial administrative and transaction costs. I will explore the possibility of abolishing the mandate of state-provided compensation, and replacing it with takings insurance instead. If society's goal is reimbursement of impacted landowners, insurance could accomplish this end at least as well as government compensation could. Additionally, private insurers could likely better monitor the excess improvement problem and reduce the administrative costs involved. I argue that the government's incentive to take land inappropriately will not be adversely impacted, and that moral hazard of insured landowners to submit to takings will be no worse than it is today. Moreover, the distributive impact of switching to takings insurance instead of state-based compensation will not disproportionately hurt the poor. Finally, under an insurance regime, the government will be led to take land in socially optimal locations, rather than where it is politically expedient because poor or minority communities will be unable to put up a fair fight.
In the context of regulatory takings, however, it is not as clear that insurance-based compensation will be effective. It is quite challenging to accurately measure changes in land values due to myriad government actions, from the passage of various zoning ordinances governing commercial to residential to even wetlands development. Further, actors facing regulatory risks are often relatively risk-neutral, and moral hazard in the regulatory insurance market may pose a significant problem. Hence, neither insurance nor government-provided just compensation may function particularly well, perhaps explaining the strict Tahoe standard just promulgated. We should admit, however, that there is no principled fairness-based reason for the Supreme Court's current dichotomy in physical versus regulatory takings jurisprudence - in both instances, property owners are frequently left with little or no land value remaining. Instead, the differential treatment is better explained by the economic and practical realities of valuing and compensating for the different nature of the takings involved.
Keywords: eminent domain, property, taking, just compensation, insurance
JEL Classification: D23, H41, H42, K11, K00, K10, G38, D7, D78
Suggested Citation: Suggested Citation
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By Abraham Bell