A Few Gated City Clarifications

I’ve been meaning to respond to a few points made by Aaron Renn in a recent review of The Gated City, and I’ve finally found a few spare minutes to do so. So!

First, Renn asks about the distinction between employment density and residential density. At a very local level, this is obviously important, as he points out. The economy of the employment-dense downtown Washington neighborhood is very different from that of the population-dense Adams Morgan neighborhood. These distinctions are interesting and important, but not that critical for the argument I’m making. Most of the studies I cite focus on employment density at fairly large scales — counties or metropolitan areas, for instance. At those scales employment and population densities closely track each other, as one would expect, and the population numbers are easier to get at higher frequencies for more places and at smaller scales (which is useful in computing weighted-average densities).

Next, Renn writes:

Another is that the book heavily focuses on the supply side of the equation (i.e., the ability to build) as opposed to the demand side. But arguably demand had a bigger role to play in driving up housing costs in places like NYC…

No amount of new supply would have been able to keep up with the significant deregulation of finance that occurred in the last two decades (repealing Glass-Steagall, raising the ceilings on the share of national deposits held by a single institution, etc) and Helicopter Ben’s printing presses.

Also, assume we were able to moderate the price of housing in these places somewhat. What would that do for us? Well, NYC and SF would still remain among the most expensive places in America to live. This means that they are going to continue to draw principally those who are able to tap into the particular wealth generating functions of those regions, along with those who particularly value the amenity set of those cities or who are following network path migration. However, the industry groups that are now predominant in those cities are ones that employ almost exclusively high end labor. So what this would mean in my view is that instead of say the top 1% being able to live and work in these places, we extend that down to the top 2% or 3%.

I would disagree that I focus on the supply side. A critical part of my argument is that technology has increased the productive role of big, dense cities, leading to a significant increase in demand to live in such places. Without rising demand, tight supply has no effect on prices. I focus on supply as the solution, because the only way to reduce prices on the demand side is to make the cities less attractive, which seems like an unpleasant option to me.

Deregulation increased the return to some portions of the finance trade, but it seems to me that the impact of technology has been more significant (Bernanke has essentially nothing to do with it; note that these trends are now several decades old). New technologies allow top financiers to control vast sums of money in investments around the world with the greatest of ease. Hedge funds aren’t a new innovation; they’ve been around half a century. But hedge-fund activity exploded in recent decades thanks mostly to the direct impact of technology (and the indirect impact of technology on top incomes, which created more demand for high-end money management).

There is absolutely a level of supply growth that could have dealt with soaring demand and prevented skyrocketing housing costs. There’s no technical infeasibility to such growth. The obstacles are political and cultural. During the industrial revolution, America’s large cities grew by 500% or more. There is no tolerance for growth at anywhere near that level now. That doesn’t mean it’s impossible, just outside our comfort zone.

At any rate, marginal improvements are the best we can hope for. I’m not suggesting that freer building in big cities will eliminate inequality at a stroke. I’m merely suggesting that a more liberal approach to building is one important way to help maintain the dynamism and broad-based opportunity of the American economy.

Two other points. First, Renn echoes some other writers in wondering how much of the higher productivity in cities is due to compositional effects, that is, from exclusion of low-ability workers. The answer, as I acknowledge in the book, is some. But there is a significant effect over and above this. Controlling for individual characteristics, there is a benefit to being in a smart city. That is, if you take individuals with similar skill levels and put them in different cities, the one in the city with more skilled workers will be more productive. Gated cities don’t thrive because of exclusion; they actively make the workers there more productive.

Finally, Renn makes a good point when he writes:

So to really boost employment, we’d need more than just cheaper land making labor more available at a reasonable cost. That might provide some boost. But we would also need business model innovation.

I agree! And one of the points I aimed to make in the book is that during periods of dramatic technological change cities become more important, because they are laboratories of experimentation. Early last century, within America’s large industrial cities, there was a constant conversation taking place across competitors. Firms worked constantly to improve new technologies, but also to find ways to build successful businesses around them.

Just recently, a Google employee named Steve Yegge wrote a memo to his coworkers which was accidentally posted publicly. It’s a fascinating look at the process of innovation in Silicon Valley. Not simply product innovation; Yegge specifically discusses the way that cultural differences at Google rivals give them an edge in exploiting the business potential of the platform. Yegge previously worked at Amazon, and he writes in a fashion which suggests that his audience will also be intimately familiar with the strategies and goings on at companies like Facebook and Apple. It is as if these ideas are in the air, to use Alfred Marshall’s phrase. It is in places like Silicon Valley that people are grappling with how best to deploy the wondrous new technological tools at our disposal, and how best to build businesses around them.

This is why dense, productive, innovative cities are so important. It’s why it’s important to make sure that workers can afford to live in such places. The jobs these innovators create will be good ones. And they will create more of them if the local labor market isn’t incredibly tight thanks to high housing costs.

Renn suggests that my solutions may merely mean that we squeeze a few more horsepower out of the American economic engine. I’m happy to agree with that. That, after all, is how all of humanity’s modern progress has occurred. All of the stunning technological innovations of the industrial revolution didn’t lead to rocketing economic growth; since the early 19th century, potential growth has held remarkably steady at around 2% a year. It’s just that across decades, the effect of pushing growth up just that little bit has an enormous impact. If America had growth half a percentage point faster each year for the past two decades, we’d all be much, much richer.