UNDERSTANDING THE RISE AND FALL OF URBAN ECONOMIES / SEEKING ALPHA ( RECOMMENDED READING )

Understanding the Rise and Fall of Urban Economies

by: Ryan Avent

December 31, 2009

I am generally a fan of the American Prospect and a very big fan of the people who work there, but the magazine’s latest issue, which highlights “The Post-Boom City” on the cover strikes me as a whiff all the way around. I discuss the Special Report on manufacturing here, but I also want to say a few things about Alec MacGillis’ piece on Richard Florida and urban development.

I don’t have much time for the quasi-accusations of hucksterism leveled at Florida. He’s never been shy about self-promoting, and he’s certainly done well for himself publicizing and evangelizing about his ideas, but major American cities aren’t exactly naive old grannies being suckered in by Florida the conman. Florida has a view on urban development. He’s accepted thousands of dollars to come talk about it with city leaders around the country. If those cities can’t make a good judgment about what they ought to do next, that’s not Florida’s fault.

The criticism of his actual ideas is a trickier topic. MacGillis makes some reasonable points, to which I’ll get in a minute. But I think that he, and many others, haven’t really begun to wrestle with the nature of urban economics and the way it relates to broader policy issues like inequality. MacGillis writes:

A tautology lies at the heart of Florida’s theory that has limited its instructive value all along: Creative people seek out places that draw a lot of creative people. Florida has now taken this closed-loop argument to another level by declaring that hence-forth, the winners’ club is closed to new entrants.

That tautology doesn’t just lie at the heart of Florida’s theory; it describes the actual functioning of urban economies. The value in economically dynamic cities is the people that populate them. Where once, firms would pay high land prices to be near coal deposits or harbors, based on the economic advantages those amenities conferred, they now pay high land prices to be near talent. This yen to concentrate in particular areas has a number of dynamics. Firms want to be near customers and clients. Workers want to be near firms. Firms want to be near workers. Where there are lots of firms and workers, there will also be businesses serving those workers — in business and in the provision of consumption opportunities — and those services attract additional firms and workers. Everyone wants to be where everyone is, and it’s tough for anyone to go somewhere else because somewhere else is where people aren’t.

The result is an urban geography that’s very lumpy. People clump together, because there are gains to doing so.

But what makes a successful clump changes over time. The economics that underpinned the older manufacturing economy supported clumps that don’t necessarily make economic sense today. With declines in transportation and communication costs, it became affordable to move plants away from expensive city land, and that’s precisely what many businesses did. In cities that were also home to a substantial knowledge economy sector, this ultimately proved to be a boon. By outsourcing their manufacturing (and later, their back office) components, firms could reduce the overhead on the offices of those who still needed to be in the city, improving margins (and making more room in the city for others who needed to be there, thus increasing the return to everyone of being in the city).

The result is a world where the key to urban success is a critical mass of workers with high levels of what economists like to call human capital. And because there are returns to scale at work, there is an element of the zero sum here. Or to put it another way, the world where every big city has its own fair share of talent is not a stable equilibrium; it will decay into a world with haves and have nots. And indeed, that’s what we have seen in recent decades. Educational levels in cities one hundred years ago strongly predict educational levels in cities today. And cities with high shares of college graduates have absorbed more than their share of new college graduates in recent decades.

These dynamics have important implications for the way we think about policy, and I wish more people appreciated them.

Now, the above is not a death sentence for a city that’s not one of the main metropolitan dynamos. It takes all kinds, and there will be smaller regional talent centers that prosper. Proximity to a dynamic economy is also a means to success. Location in the northeastern corridor, for instance, is quite lucrative, and a number of decaying industrial towns that might otherwise have met a Detroit-like fate are enjoying economic revivals thanks to the strength of the broader NEC economy.

But what do you do if you are in a town that is a long way from generating a self-sustaining concentration of human capital, and which is relatively remote from bigger urban economies? The options are not pretty. Cities in that situation will tend to find that the better a job they do educating their local residents, the faster their towns depopulate; a good education is a ticket out.

Reading the Prospect, you’d think that the key to saving these old industrial towns is to find ways to support American manufacturing. All that’s been standing in the way of their continued success, it seems, is the decline of unions and a cheap renminbi. This just isn’t so. Different policy choices might have slowed the decline of manufacturing employment in America, but they would not have stopped it — or the consequent decline of manufacturing-dependent cities.

I’ll tell you what I think MacGillis gets right, and what makes these issues very difficult to address. People are not simply cold, rational calculators who will make a determination about where in the US they can maximize the return to their skillset and move there. Even as cities experience serious decline, some — millions of — people will stay behind because that’s where friends, family, and other connections are. And that’s why dismissing the problem of urban decline as just a healthy part of economic adjustment is an unsatisfactory answer.

But the solution here is not to hope that we can restore the industrial days of yore. I’ll tell you what I think we ought to be focusing on. First, I think it’s inappropriate to dismiss the importance of increased investment in education. Noam Scheiber recently wrote about manufacturing, saying:

Now it would be great if everyone would go to college and be able to thrive in the post-industrial economy. But, in reality, there’s always going to be a significant portion of the population that doesn’t get beyond high school. Which means that an economy with almost no manufacturing is probably an economy with much greater income inequality.

True, not everyone is going to go to college, but that’s not necessary. Marginal increases in the supply of college educated workers will increase competition for high skill jobs — slowing wage growth for such positions — and reduce competition for low wage jobs — boosting wage growth for those positions and thereby narrowing inequality. The bottom line is — we are not anywhere near the point at which the capacity of young Americans to increase their skill level has been reached. Lots of kids get too little education, and that’s a bad thing for the economy, for inequality, and for American cities.

Secondly, it’s worth thinking about how infrastructure can boost the quality of life for everybody, including workers who can barely afford to live in the most dynamic cities and workers who have decided to live in declining cities. Better housing and transportation policies can slow growth in costs that consume over half of household budgets. Rules that make it easier to build homes within easy traveling distance of jobs centers reduce housing costs. Building retail and jobs within walking distance of homes allows families to opt for living situations with low transportation cost levels (and low transportation cost variability). Investments in things like broadband significantly expand consumption possibilities for those living in areas without many entertainment amenities. And better communication and information infrastructure may help struggling cities to leverage up the talent they do have by enhancing connections within the cities and within broader regions.

Third, we should do a better job treating ailing cities. Economically speaking, investments in a doomed city will only retard that city’s decline, meaning that more people suffer in its economic doldrums for longer. But the case for aid to distressed cities is like the case for unemployment insurance — the aid prevents a damaging decline which outweighs the negative incentive effects.

MacGillis quotes David Lewis saying:

What [Florida] ignores is that places have sunken infrastructure — not just in roads and buildings and sewers but the stuff that matters…

There are two ways to look at this. One is that all of these amenities are just temporarily underused. Eventually, the price of things like vacant homes and buildings will fall enough to attract new tenants and everything will work out. In that case, temporary aid might be in order — countercyclical aid — to prevent the decline from feeding on itself and getting out of hand.

Another view is that the decline is permanent — those buildings will never again be filled. In that case, aid is still justified. Why? Well, we’d like to avoid a fiscal death spiral that leads to serious declines in public services. Cities don’t disappear over night, and residents shouldn’t be subject to infrastructure that’s falling apart and a police force that can’t stop crime. Aid may also prevent residents from becoming trapped in the failing city. Rapid declines in property values will make selling homes — and migrating — difficult. Deterioration in local schools will likewise limit migration opportunities for younger residents.

But so long as declining cities are still there, there will be cries to try and rejuvenate them with various public programs — tax incentives to lure new companies, public funding for stadiums or convention centers, bail-outs for failing firms. These kinds of things are simply not helpful. The issue is this: it’s never clear what transition is going to look like and what the right distribution of people and capital is going to be. In providing aid to struggling cities, then, we want to facilitate that transition, not impede it. We want to make people more mobile, even as we work to generate a high quality of life in growing cities and declining cities. We don’t want to lock up resources in declining cities, either by propping up failing companies or by trapping people in hopeless situations.

These topics are complicated. And counterintuitive; no one likes thinking that the right thing may be for one of America’s largest cities to shrink until it disappears. But it’s worth remembering that the industrial revolution swept away whole occupations and completely redrew the urban geography of America and Europe. Cities which had been major regional capitals for centuries were suddenly backwaters, while major metropolises exploded out of nothing.

Technology is producing and will continue to produce a similar shift. Whole sectors will vanish, and take millions of jobs with them. Cities dependent on those old sectors will struggle to survive, and for some places this will be a losing struggle. This is not the kind of thing that progressives should want to stand athwart yelling stop. Instead, they need to find a way to promote progressive ends — mobility, opportunity, and security — while embracing economic shifts that are, on the whole, empowering and a source of great prosperity.