Urban Economics: Land Use and Rent

Rent of urban land is dependent upon different amenities, like access to roads. A piece of land that is ideally locally near downtown, or near a subway station will have a higher rent than a similar sized land that is away from downtown or a subway station. David Ricardo came up with the idea that agricultural land rent is dependent upon its fertility. Similarly, we can interpolate that the more ideal a land's location is, the higher will be its rent.

The rent price per acre is the total revenue, less the various capital, transportation and production cost, divided by the area of the land in acres. Thus, if one of the costs of production is higher, it will cause land rent to decrease.

When land is plentiful, there is no need to build a skyscraper because cost of building a skyscraper exceeds the rental savings from using large amount of land to build low rise buildings.

Spatial Distribution of Jobs

How jobs are distributed in a city can affect the density of buildings in an urban area, and vice versa. In some cities, like Boston and Portland, there is one city center where there is most jobs. So most commute is from the suburbs to the city center. With the rise of rent in city centers, many offices find it too expensive to stay in downtown. Some firms may migrate to outside the city boundaries, or to suburbs. This can increase the density of employment in some suburban areas - leading to the creation of edge cities. These edge cities are typically near the highway and have different manufacturing and services industries serving the main city. For example, Los Angeles, Chicago, and to some extent, New York have a number of edge cities surrounding them. In some cases, like Los Angeles, there is a fall of mono-centric city, mainly due to the rise in urban sprawl and the move of factories from city centers to places where land and labor is cheap.

Some factors that led to the rise in urban sprawl are:

1. the low price of negative externalities like congestion
2. mortgage subsidies
3. low prices of different amenities outside of cities
4. different zoning regulations

As land is plentiful in the US when compared to other countries, cities in the US are less dense than cities around the world.

Spatial Distribution of People in Cities

Because land prices are high in certain parts of the city compared to others based on amenities, one sees the rise of segregation based on race and income. For example, Du Bois noted in Philadelphia that the 7th Ward is where most of the African Americans lived in the early 1900s, and the living conditions were squalid. Right outside the 7th ward, the wealthier African Americans lived, and most of them were born in Philadelphia. Because of discrimination, an African American in early 1900s was not able to get good employment, no matter how qualified he/she is. Du Bois also mentions that African Americans faced problems in social interactions with the general population, educating their children and finding good place to live because of discrimination.

Although overt discrimination is unlawful now in the US, years of segregation and social exclusion have made some areas in cities and its inhabitants unable to rise up the economic ladder. The more segregated a city is, the more social and economic problems it can have. As economists, we are interested to measure the level of segregation in a city. One simple measure of fractionalization is 1 minus the sum of squares of the fraction of individuals in different ethnic/linguistic group.

There are other measures of segregation, like the 'index of dissimilarity' by Cutler and Glaeser (1997). Using this measure of dissimilarity, Cutler and Glaeser (1997) show that African Americans living in segregated communities are worse off than those not living in segregated communities. However, they do not find a similar effect on whites.

Urban Economics - growth

Just like a country, a city also experiences economic growth based on the level of the following factors:

1. quantity of labor
2. quality of labor (human capital)
3. physical capital
4. technological progress

Labor Demand

As cities grow, more people tend to move to cities. People will continue to move to cities as long as the marginal benefit of moving to a city (higher wages, better amenities) exceed the marginal cost of moving to a city (higher cost of living, more congestion, pollution). The BEA compiles the growth rate of US MSA (metropolitan statistical areas - defined in this link).

When more people enters the city limits, the density grows, and the city can reap the agglomeration benefits. For example, one paper finds that opening large plants in a county can increase total factor productivity by 12% in five years. The wages of labor in a city is determined by labor supply and demand. Demand for labor is determined by the marginal product of labor, and the price of output that is being produced. The following can increase the demand for labor:

1. increase in labor productivity
2. increase in the price of output
3. lower taxes on business
4. amenities for setting up firms

If firms in one sector are growing and hiring more workers, it can create a multiplier effect and encourage other support firms to grow. For example, if the tech industry grows here in RTP, it will also increase demand for banking, transportation and food industries, causing them to grow. This is the multiplier effect of employment. With increased demand for labor, there is also more demand for housing and office/industrial space, an example is the Brickell district in Miami.

One popular (yet ineffective) way of increasing this multiplier is by building sports arenas in cities. Cities spend billions to attract professional teams to come in. However, studies have shown that building sports arenas does not have a meaningful impact on the economy in the long run.

Taxes can affect business location. If a metropolitan area increases tax by 10 percent, it reduce its business activity by 1-6%. ON the other hand, if an individual municipality in a city increases taxes by 10 percent, it can reduce business activity in that municipality by 10-30 percent.

Labor Supply

People are attracted to move to cities mainly for the following reasons:

1. Wages in the city
2. amenities provided by cities
3. taxes in cities
4. services provided in cities.

If one city changes its policies towards firms or individuals, it can affect the surrounding rural communities, and even other cities in the country. Because it can be costly to live in a city in real terms, the cost of living in a city and non-city may be the same, even though the wage differential (in nominal terms) persists,

Urban Economics - What Makes a City Grow?

Clustering of Firms

A large number of firms clustering in one place can make a city grow. There are certain factors that encourages a firm to cluster in certain places. For example, an IT-related firm would like to locate in the San Francisco area, where there is a high concentration of similar firms. Similarly, biotechnology firms might want to locate in and around the Research Triangle Park (RTP) in North Carolina. There are certain positive externalities that a firm enjoy from clustering. We see this kind of agglomeration because of the following reasons:

1. firms of a particular industry may locate in a certain location because they can share inputs. For example, a bio-tech firm would like to locate in RTP because there is a large pool of skilled labor produced by a number of universities in the surrounding areas. Industries that use a lot of power may want to locate in places where there is a cheap source of power.

2. Firms are able to recruit the labor that ideally matches their requirements. Workers may move to places where their skills are in demand. So, a new firm locating in a place with similar firms will be able to recruit from pool of workers from the right kind of skills. 

3. Different ancillary services that are needed by the industry would also be located in the place where the firms cluster (like lab services in bio-tech clusters). This can help firms enjoy economies of scale. So, a number of small firms can provide services to a large firm. 

4. There is a lot of knowledge spillovers. Firms in the same industry can learn from each other, and can work together to promote knowledge sharing of certain types. 

Optimal City Size

As a result, we end up seeing some areas specializing in certain industries. However, we also see cities that have a number of industries located within its borders, like New York. 

As firms cluster, people move to those areas, increasing density, which creates urbanized areas. There are benefits and costs of a growing city. If benefits of living in a city (higher wages, better amenities, more employment opportunities) outweighs costs (congestion, pollution, high prices), people will continue to come to cities. However, as more people moves to cities, congestion costs become very high. Planners need to find out new ways to accommodate more people in limited space, some of which are illustrated in this TED video.

However, even as people move to the city, they may choose one location over the other. Tiebout (1956) in his paper, showed that a consumer-voter would pick the community where they want to live based on their preferences. If they a particular neighborhood provides a public good that a consumer wants, then she will move to that neighborhood. The job of the local government is to provide those public goods, and they finance it through taxation. Thus, taxes are a mechanism to allocate public goods in an area. One feature of public good is that one cannot be excluded from using it, but by taxation, the local government can ensure that only those who pay the tax can receive the public good (like school districts). By adjusting tax rates and public goods provision, local governments can attract people to certain neighborhoods.

Exclusion

However, as neighborhoods form, certain groups and individuals can be excluded from that neighborhood overtly or inadvertently. Ali Madanipour wrote an essay about exclusion and said exclusion can be driven by economic (lack of jobs), political (lack of representation in government), or cultural (for example, differences in language or dialect). A poor individual may feel socially excluded from certain neighborhoods because he may not 'fit in.' The more restricted the social exclusions are, the more restricted are the places where a person is comfortable hanging out. The creation and sorting of neighborhoods according to Tiebout (1956) can lead to segregation of land and property markets. Some areas become exclusive neighborhoods, and other areas become poor neighborhoods, and those living in the disadvantaged neighborhoods can feel socially excluded from the well-off neighborhoods. In the long run, this can lead to a breakdown of cultural and political ties, leading to a 'culture of poverty,' as explained by Oscar Lewis.

Urban Economics - Why do Cities Exist

Why do cities exist? This is an interesting question to ask. We are so used to seeing urban localities around us that we don't appreciate the reasons behind their existence. 

In a world without cities, there would be small hamlets dotted around the world. Each hamlet would have to be self-sufficient to some degree. There can be trade between those hamlets, but without proper transportation networks, it can be difficult to to carry out such trade. Indeed, after the emergence of internet, some people believed that cities would be made redundant, and people would move back to living in villages, but such did not happen. More than half the world's population now live in cities. 

There are three main reasons why cities exist:

1. Trading City: When there is home production, or production in a factory, the products are usually not traded just within the boundaries of the locality. In early times, it was easier for farmers and artisans to produce their products in the home village, and then take it to a nearby market where their products can be sold. People from other villages also would come to sell their wares or trade. These congregation later became trading cities. Many cities of history started their journey this way. The Phoenicians in some part, help to proliferate such cities. 

2. Factory City: With the emergence of the Industrial Revolution era, home production was no longer economic, and large factories were set up to produce a variety of goods. Hundreds, even thousands of  people were needed to work in factories. Many people moved from rural locales to places where there were factories. This led to the creation of factory cities or industrial towns. Many cities, like Shenzen in China, are operating under this model. 

A country may be too large for it to be served by one factory city. So, a system of factory cities developed to serve different parts of the country. 

3. Innovation Cities: A lot of cities have developed where a lot of research and development takes place, and a large number of people are attracted to live there. Stanford University helped n the creation of Silicon Valley, and that region has become an important innovation city. Similarly, the Research Triangle Park of Raleigh-Durham, North Carolina, is another example of innovation city. A lot of firms carry out research, while a number of secondary firms agglomerate in that area too to provide different ancillary services. 

A number of these innovation cities have a research university (or more) close by. Government research industries also can create innovation cities. 

However, all these could not have happened if agriculture did not develop. If agriculture did not mechanize, and productivity in the farming sector did not increase, there wouldn't be people who could devote time to industry and services, which ultimately led to the creation of cities. 

What makes a city grow? Human capital, initial unemployment and industrial activities are important. Glaeser, Scheinkman and Shleifer have shown that past levels of human capital positively affects growth rate of a city. Higher levels of unemployment and manufacturing activities in the past can reduce current growth rates of a city.

With the world evolving, cities are evolving too. Some world cities have become more important than others commercially, and cities have been ranked as alpha, beta and gamma cities. Some even think that international cities have more in common with each other than with the culture of their own countries. But, as more people move to cities, their importance will keep on increasing.

Like an emperor losing his clothes

My recent op-ed published in the Bangladeshi daily "Dhaka Tribune" on February 3, 2016

Bangladesh has seen robust growth in terms of export and import the past two decades. Our export basket, however, is dominated by only a handful of items.

A large bulk of our export is product from the labour-intensive garments sector, and our comparative advantage in this sector is mainly due to the fact that we have an abundant supply of cheap, unskilled labour.

The apex garments trade body, the BGMEA, is forecasting that Bangladesh will be able to export about $50 billion worth of clothing by 2021.

In theory, this is possible, but it would be difficult to achieve this goal without the intervention of the government in the foreign trade sector.

Bangladesh, as a least developed country (LDC), gets preferential market access to some countries and trading blocs, like the EU, China, and Canada -- but the country does not have any free trade agreements with any of these countries.

Seeing how the country might soon shed off its LDC status, it will also risk losing said preferential access to the aforementioned countries. While, at the same time, competitors of Bangladeshi exports are aggressively forming trade partnerships with different countries.

For example, Vietnam is a major competitor of Bangladesh when it comes to RMG, and the nation is not only a member of ASEAN -- a free trade bloc -- but it also has free trade agreements with the EU, and will soon be signing one with the US and Japan (through TPP).

That means that Vietnamese products will be sold to those countries tariff-free, while Bangladeshi products will face tariffs in the coming years.

Vietnam isn’t an exception here; other countries are also moving forward with signing and ratifying free trade agreements, which will make Bangladeshi products more expensive in the coming years.

This can be one of the reasons why the country has failed to attract large amounts of FDI, even though it has been providing a lot of incentives to foreign investors.

What can Bangladesh do? Wages have already hit rock bottom. It will take a lot of time to develop skills and other industries which could buffer our small nation against such negative external shocks.

On the production side, there is little that Bangladesh can do in the short run. The only viable thing that the government can do is increase the market access of Bangladeshi products -- which can be done by aggressively making trade deals with important trading partners of Bangladesh.

At present, Bangladesh does not have any meaningful free trade agreements (FTA) with any country. SAFTA is the only significant FTA that has been ratified. Some others, like that with D-8 countries, have not been ratified.

The main buyers of Bangladeshi products are the US and EU, and so, Bangladesh should look into signing free trade deals with those countries.

The country should also look into the possibility of signing FTAs with Canada, Australia, and various Latin American nations.

FTAs with countries that sell different raw material to Bangladesh, like oil, cotton, and yarn should be considered heavily as well.

Some industries in Bangladesh may suffer because of FTAs, but they will at least guarantee that our main exports have duty-free access to major markets, both in the short term and the medium term.

Greater market access will also encourage FDI in Bangladesh, as the country is yet to have a large and prosperous domestic market.

It will also give us some time to develop other industries so that we can export products that require skilled labour and capital in the long run.

Trade experts, the BGMEA, and the government should actively look into which countries Bangladesh can make trade pacts with, and the government should start looking into signing and ratifying said trade agreements.