I've been thinking more about yesterday's post and what it might mean for cities, and I'd like to add some additional thoughts. The report that I linked to looks at what the fiscal implications of WFH have been on a number of US cities (at least so far). That is the chart that I shared summarizing New York City's "agglomeration losses."

But along with this, there is an important assumption that we have not yet reached a new equilibrium. In other words, we are still in a period of adjustment, which feels right, especially if you talk to anyone in the commercial real estate industry. And that means that there are alternative and largely unknowable scenarios for the future.

In the report, they study the following three:

• Doom loop prevails (current state where city finances get worse)

• Recovery (cities regain their pre-pandemic levels of agglomeration economies)

• Virtuous boom loop arises

Obviously the objective with their recommendations is to help cities achieve this last one. This is the scenario where cities regain prosperity because firms are able to simultaneously increase their concentration of high-value in-person workers (who benefit from agglomeration economies) and shift all the other stuff to WFH (which allows firms to save money and drive efficiencies).

More specifically, this scenario assumes that agglomeration economies start to grow again; that wages increase because of it; and that firms, overall, become 10% more productive. It also assumes that office real estate values recover to pre-pandemic levels.

The future is, of course, notoriously difficult to predict. But I am optimistic that the best and most desirable cities will figure out how to create a new virtuous boom loop. History has shown us that cities are remarkably resilient.

However, implicit to this discussion seems to be the creation of two classes of workers: workers who are expected to show up in-person and do innovative things with their colleagues, and workers who are encouraged to stay at home and do the tasks that do not benefit from co-location. Of course, lots of people do both of these things. But for the purposes of this post, let's just compare and contrast these two.

Importantly, these two types of workers are expected to have different wage outcomes (in the above report). For WFH workers, wages are initially modeled to fall because of the loss in agglomeration-related productivity. But interestingly enough, before this wage decline happens, WFH workers are unambiguously better off -- they have the same salary and none of the direct costs of going into the office.

On the other hand, in-person workers are modeled to have their wages increase because of the gains in agglomeration-related productivity. The authors of the report have calibrated their models so that these two types of workers eventually become equally well off, once you adjust for changes in wages and things like the direct costs of commuting. But what would this really mean in practice?

To oversimplify, we're talking about two different types of workers:

• An in-person worker who is expected to have higher wages, be more productive, and live closer to a city center because of their need to be physically present

• A WFH worker who is expected to have lower wages, be less productive, and live further out (or in a different city) in order to equalize their lower earnings by way of less expensive real estate

If this is how our labor markets evolve, then it strikes me that there could be far-reaching socio-economic implications. What I worry about is further segregation within our cities. The above scenario means doubling down on the role of big cities as centers for innovation and agglomeration economies. But in doing this, how do we ensure that we don't exclude everyone else?

Once again, I suspect that a good place to start would be lowering the cost of new housing and increasing the pace of production.

Photo by Lerone Pieters on Unsplash

One of the interesting things about return-to-office trends is that there's a meaningful difference between smaller and larger cities. In smaller cities, most people have returned to working in their offices. But in larger cities, this hasn't been the case. This makes intuitive sense. Larger cities tend to have more expensive real estate (which forces people to decentralize) and, in turn, longer and more punishing commutes. So in a larger city, the individual benefits of WFH (i.e. having zero commute costs) tend to be far greater.

However, in-person interactions are critical to what are known as agglomeration economies. This is why we have things like financial districts -- because there are real economic benefits to even competing firms locating proximate to each other. WFH arguably reduces these benefits. And in this recent report called, Doom Loop or Boom Loop: Work from Home and the Challenges Facing America's Big Cities, the authors, Richard Voith, David Stanek, and Hyojin Lee, have tried to estimate what these agglomeration losses might be for cities like New York, San Francisco, and Philadelphia.

Here's New York City:

If you agree with their assumptions, then you might also agree with their policy recommendations. Among other things, the report argues that larger cities, like New York City, should be focused on promoting themselves to industries/jobs that benefit the most from in-person interactions, recognizing that WFH isn't going away. At the same time, cities should understand that reducing the cost and increasing the pace of housing production also helps to reduce agglomeration losses. It keeps more people centralizing around a particular place.

To download the full report, click here. It's an interesting read.

We have spoken over the years -- here, here, and here -- about the centralizing and decentralizing forces that play out within our cities. Agglomeration economies, for example, are a centralizing force. There are real economic benefits to people and firms clustering together in cities.

However, there are also many decentralizing forces. Traffic congestion is one. And of course, the pandemic also proved to be a powerful one for many cities.

But the fact that we even have cities in the first place should tell you that the centralizing forces do tend to win out over the decentralizing ones. And a perfect example of this is Tokyo. Usually considered to be the largest metropolitan area in the world, Tokyo has about the population of Canada in one city region.

And here, the centralizing forces are so great -- even for families -- that the government actually pays people to relocate to places outside of Tokyo's 23 wards (and its immediately surrounding areas). Previously the maximum figure was ¥300,000 per child (~CA$3,056), but this has now been increased to ¥1 million per child (~CA$10,188).

A key driver of this is surely Japan's demographic problem (namely a shrinking and aging population base). But it doesn't change the fact that lots of people appear drawn to the world's largest city.