On Urban Decline and Efficient Government Intervention

by: Ryan Avent

Over at Clusterstock, Joe Weisenthal discusses a Journal story on bohemian types taking advantage of rock bottom real estate prices in declining Midwestern cities. I've mused on this subject before -- whether artist types moving to, say, Detroit for the cheap living could touch off a renaissance for the city. My conclusion was: Not without a lot of help-- but I certainly would love to see it happen.

The standard economist approach to decline in the Rust Belt is that it's fundamentally a healthy process. It represents a useful reallocation of resources to locations that are more productive, and it's not something that the government should seek to stop or reverse. If there's a role for government aid, it should be in the form of direct assistance to residents of the declining cities, who can use it to provide for themselves as the local economy around them contracts or (more likely) to pay for relocation to more opportune climes.

This actually used to be my position, but I increasingly feel that it's wrong. It's certainly wrong from a political and practical perspective. Governments are unlikely to do nothing while cities decline and will throw money at the problem somehow. If money is going to be spent, we should seek to understand how best to do it. And the idea of individual voucher assistance isn't all that attractive either. We should just send checks to the millions of people of the Detroit metropolitan area and hope that the area depopulates in an orderly fashion? Believing that this is the right policy requires a refusal to accept that there are significant constraints on people and policy (a common talent among economists).

But policy constraints aside, I'm beginning to question the economic assumptions embedded in these beliefs. In particular, they assume that the process of city growth and decline is an efficient one. I'm not so sure. A negative and idiosyncratic economic shock to a city will likely result in some loss of people and businesses. This reduces the tax base but doesn't necessarily reduce the city's budget burden in a corresponding fashion. When people move, the underlying infrastructure remains, and needs to be supported. So in response to a shock, cities need to cut services and raise taxes.

Reduced service levels and higher taxes will encourage other households to leave, which will further stress local budgets. A downward spiral results, in which rot can continue indefinitely, leaving billions of dollars worth of valuable infrastructure to go to waste, while the cities elsewhere that are absorbing the refugees from the declining city are spending billions to build new infrastructure. The Keynesian idea is that it doesn't make sense to have a situation in which perfectly good capital and labor should go unused. For some reason, markets aren't clearing, but appropriate government intervention can step in and address the market failure and return the economy to a healthy equilibrium. I think a similar argument can be made for declining cities.

Now there are obviously ways in which physical and economic geography influence the distribution of the population. As many economists have noted, the economic cost structure that made concentration of manufacturing advantageous and that formed the basis for the growth of industrial cities has largely vanished. Fair enough -- I don't think there's any reason to support a particular industry or a particular sector.

But a major city isn't just an industry. It's a collection of institutions, systems, and structures that support economic activity. Clearly the economics of city existence haven't changed so much as to make the multi-million person metropolian area obsolete; people who leave Detroit mostly go to other large cities. The question, then, is why the reallocation of capital and labor should necessarily require the destruction of an old city and the construction of a new one. That strikes me as terribly inefficient.

In a better functioning market, the transition between industries would be smooth. But because there are frictions in this process, some cities find themselves pushed away from a stable equilibrium -- temporarily left with too few workers to support a stable budget, say -- which ultimately leads to their decline.

I suspect that a counter-cyclical urban policy might be in order. It could help prevent needless and painful urban and regional decline, and could allow us to save hundreds of billions of dollars by reducing the need to build redundant infrastructure and institutions. Bu shepherding a city that has fallen on tough times through a crisis, the government might save itself (and taxpayers) a lot of hassle and expense later on.

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