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THE financial press went ape this week over the highly anticipated IPO of one Facebook, the Harvard social network turned $100 billion phenomenon.Facebook’s soaring valuation has focused attention on a Silicon Valley that is once again booming, and it has led many to wonder whether social networking isn’t inflating into yet another tech bubble.
Nifty little online diversions with often questionable long-run revenue potential are increasingly trading hands for enormous sums of money – Instagram, Pinterest, Groupon, and so on.
Maybe these companies are overvalued and maybe they aren’t; I’m in no position to say. It is probable, however that – just like in the late 1990s – meaningful innovation and economic growth are occurring beneath the froth.
The 1990s gave us scads of dotcom flops, but it also gave us businesses like Amazon and Google: companies that are fundamentally changing the way the economy works. This boom, too, will have its extraordinary, transformative firms.
Could it also bring back the roaring labour market of the 1990s? An interesting new paper by Enrico Moretti and Per Thulin estimates the employment multiplier on job growth in different industries and finds that in America, a new job in the manufacturing sector of a city corresponds to an addition of 1.6 jobs in its non-tradable industries (things like eateries, education and health services, salons, landscaping, and so on). For high-tech employment the multiplier is much higher, however; 5 jobs in non-tradable industries are generally created for each job in high tech. That seems a plausible relationship. Yet when we look at individual cities and regions, we see substantial variation. And what is particularly striking is just how limited the immediate employment impact of Silicon Valley’s boom appears to be. From 2009 to 2010, the San Jose metropolitan area economy grew some 13% but employment in the metro area rose about 2%.
From 2009 to 2010, the San Jose metropolitan area economy grew some 13% but employment in the metro area rose about 2%.
The Houston metro area enjoyed job creation equally fast on much slower economic growth, of just 1.6%. (We won’t get data on 2011 metropolitan economic growth until this fall.) Attempting a back-of-the-envelope version of the Moretti-Thulin calculation, we see similar results.
The San Jose metro, for instance, experienced a private employment rise of about 30,000 in the year to April, of which just over 5,000 came in “professional, scientific, and technical services”, which includes some but not all high-tech employment as well as some things that aren’t high-tech. In Houston, by contrast, private job growth amounted to 90,000 in the year to April on just 7,000 in professional, scientific, and technical services. Houston, in other words, got about twice as much private job growth out of its technical job growth in comparison with San Jose. If you repeat the exercise at the statewide level, for California and Texas, you get a similar ratio; Texas produces many more overall jobs for a given number of skilled, tech positions. This doesn’t just come down to cyclical government employment changes, as it happens. Early in the recovery California was losing far more government jobs than Texas, but in the year to April government losses were roughly proportional in the two states.
An important question would seem to be why Texas creates so many jobs relative to California, or why California creates so few given its booming tech sector. Alternatively, one might wonder or worry whether something about California’s economy isn’t potentially stifling the development of a wave of innovation.
As an investor Hartz points to the usual signs of too much money-chasing deals. The billboards on highway 101 between San Francisco and Silicon Valley touting startups no one has heard of. The bus stop signs in tech-heavy locales like Mountain View and Palo Alto advertising scads of engineering jobs.
Everyone is competing for the same people, going after the same real estate, the same support services, Hartz says. The natural resources of the startup world are getting scarcer and scarcer, and the cost is getting higher and higher. Its all an outgrowth of an abundance of capital.
There is more interest in investment than resources to put such investment to work. But, asks Mr Lee, why should that be the case? Why isn’t there enough real estate and talent in Silicon Valley to put available capital to better use? Why, instead, does capital simply bid up prices of existing resources?
The limits, as Mr Lee says, are artificial:
Hartz suggests that the limited supply of real estate is limiting the growth of the tech industry. Obviously, land is finite but apartments and office space need not be. San Francisco has plenty of room to build upwards. Silicon Valley wouldn’t even need to build upward – it could dramatically expand its housing stock simply by allowing the construction of more duplexes, row houses, and low-rise apartment buildings.
Economist Jed Kolko makes a similar point. He notes that in the year to April rents rose 5.6% across America as a whole. Over the same period, they rose 10.1% across all of the San Francisco Bay area and 12% in the “Facebook Metropolitan Area” (that is, the 10-mile circle surrounding Facebook’s Menlo Park headquarters. Mr Kolko adds;
[B]ecause Facebook is in the Bay Area, its IPO will create losers. Here’s why. If Facebook were in Texas or North Carolina, developers would have been building new homes in anticipation of this day. But in the Bay Area, water and the hills leave little land for development: the area in the bay under the Dumbarton Bridge would be an easy commute to Facebook if you could only build housing on the water. In addition, building regulations make development difficult on the precious flat land that exists. As a result, little new construction is underway in the Bay Area – far less than in other metros with similar job growth.
A growing economy and rising wealth should attract lots of new people to work, start businesses, and provide services. Because it is very difficult to add to the area’s real-estate capacity, rising wealth translates instead into a bidding war for existing real-estate resources. That translates into much higher prices and rents for the dwindling pool of available housing and office space. Much of the gain from the region’s booming, innovative economy accrues to landowners who are able to earn rents thanks to real-estate supply limits. The Bay Area certainly faces geographic limits on development – including the Pacific Ocean, the Bay itself, and the occasionally steep hillsides that surround the area. At the moment, these are not the binding constraints on the region’s growth, in terms of square footage or population. Regulations are. Consider the case of Google.
Google is located in Mountain View, just a few miles southeast of Palo Alto. Its headquarters is in the North Bayshore portion of the city, a piece of land tucked between Highway 101 and the Bay, in an office park that the giant firm has been slowly devouring. Google’s buildings are all high tech on the inside, but on the outside they’re standard late-20th-century suburban office park: clusters of short buildings surrounded by acres of surface parking. The land on which Google is sited could contain vastly more office square footage with plenty of room left over for thousands of residential units. Neither geography or geology prevents this; one finds buildings that are much taller in downtown San Francisco and San Jose, to Mountain View’s northwest and southeast, respectively.* The obstacle is regulation. The land simply isn’t zoned for denser construction.
The obstacle is regulation. The land simply isn’t zoned for denser construction.
As it happens, that’s a source of frustration for Google itself. The company has been working with the city of Mountain View to try and gain approval for redevelopment of its North Bayshore land to include denser buildings laid out more like a city grid and less like an office park – and to add housing. Google’s efforts in this area aren’t necessarily motivated by a desire to boost the region’s overall housing capacity; the company is more interested in accommodating its workforce, many members of which would prefer to do less driving and spend less time commuting. Many also prefer walkable urban environments to the more suburban neighborhoods common in Silicon Valley. A healthy number of Google’s workers now live in San Francisco for precisely that reason – to enjoy the lifestyle and consumption benefits of a typical city – and are ferried to Mountain View each day by Google’s own shuttle service. Given this set of needs and preferences, better use of Google’s land makes perfect sense, for Google and the region as a whole.
Given this set of needs and preferences, better use of Google’s land makes perfect sense, for Google and the region as a whole.
And yet its plan has repeatedly bumped up against local opposition. Some of this opposition is motivated by environmental concerns related to construction close to vulnerable bayshore. That’s understandable if a little overcautious given that Google would like to redevelop land that is already in active use. Much of it is motivated by a more prosaic NIMBYisma desire to limit change for fear of potential negative impacts on quality of life.
In April, Mountain View’s city council voted to reject Google’s proposal. The matter is not yet settled; Mountain View’s Environmental Planning Commission voted this week to overturn the council’s rejection. But this episode illustrates the challenge in attempting to loosen supply restrictions in the Bay Area. Google is a world-beating technology company, a magnet for money and talent. Many cities would fall over themselves to accommodate it, would rewrite zoning codes, offer massive tax incentives, and rename themselves Googleville if need be. Not the Bay Area. Few men not named Steve Jobs have been able to have their way with the development-averse cities of the world’s leading tech centre.
Of course, Google could go elsewhere. As Mr Kolko says, other places with freer development rules would accommodate the company’s needs and associated housing demand and then some. And indeed, some tech firms have relocated to or opted to set up in places like Raleigh, North Carolina and Austin, Texas. Los Angeles and Seattle are strong rival tech centres, as are Washington, Boston, and, increasingly, New York. As welcome as growth in those cities is, however, it is no substitute. If it were, Google’s decision would be an easy one. Silicon Valley is unrivalled, however, as a labour market and innovation hub. To be there is to be more productive, more competitive, and more plugged in to the latest industry trends and strategies.
And because there is no substitute for Silicon Valley, artificial limits on growth in Silicon Valley may prove very economically costly.
And because there is no substitute for Silicon Valley, artificial limits on growth in Silicon Valley may prove very economically costly.
Over the long term, the investments that aren’t being made become innovations and business models that aren’t realised and that hold back potential growth. In the short term, however, a boom that might have translated into very rapid job creation in the Bay Area, hasn’t.**
The question, of course, is what to do about this problem. One might just hope that awareness of this dynamic will increase such that other companies come to join Google in pushing for a less onerous zoning code. Alternatively, cities could take a lesson from other arenas in which contentious politics threaten to undermine growth. Law professor David Schleicher argues, for instance, that city planning could learn from the long process of international trade liberalization. When tariffs are reduced there are net economic benefits, but these are spread across many different individuals. The costs of liberalisation fall heavily on concentrated groups, namely, those working in previously protected industries. Those groups have a strong incentive to oppose liberalisation. If the institutional environment is set up to empower such groups, trade liberalisation will inevitably fail to materialise.
Similar dynamics apply to local development. If zoning decisions are made at a hyperlocal level, then groups that are located close by new developments, and who therefore face high costs relative to the benefits of growth, will be willing and able to veto new construction. This is frequently a problem in a Bay Area divided into scores of tiny cities. If more decisions are made at a higher level, however, like for the metropolitan area as a whole, then policymakers will care much more about the net benefits of development and should be correspondingly more likely to approve new growth.
Trade liberalisation also suggests that it’s useful to give those with much to lose a financial stake in change. Trade-adjustment assistance acts as insurance against the worst outcomes of trade liberalisation. Similarly, governments could use a portion of the tax-revenue gains from new development to offset the tax burdens of those in close proximity to that development. That would give neighbours a financial incentive to approve, or at least minimise opposition to, new development.
America’s latest tech boom is yet more proof that the world’s largest economy hasn’t lost its ability to create innovative new products that appeal to people the world over. It also helps illustrate, however, that the rickety economies of Europe aren’t the only ones that could stand to use a little structural reform. More development in the Bay Area won’t bring back the roaring 1990s. It does represent one easy way to improve the quality of job creation and growth in the American economy.
* Some urbanists claim that it’s important to cultivate the “right” density to boost innovative activity, and that tall buildings aren’t compatible with this. See this recent Richard Florida piece as an example. This strikes me as mistaken on multiple levels. I have very little confidence in the ability of planners to understand what a particular density is accomplishing and whether the “interactions facilitated” by shorter buildings either exist or are large enough to offset the higher real-estate and labour costs to which they contribute. It does not appear that technology companies have had trouble colonizing central San Francisco or New York, despite the significantly greater verticality of those places relative to, say, Mountain View. And space is mostly fungible. Even if we assume that tech companies prefer short buildings while professional firms and households are happy in tall ones, the failure to provide ample supply for the latter uses will crowd out some of the former. That is, maybe the construction of lots of new residential and office highrises in San Francisco doesn’t attract a single tech firm to the new towers. The new construction will nonetheless place substantial downward pressure on rents, attracting lots of new people to the region and making it easier to start a business.
** This is, at its heart, a microeconomic argument. I am not saying that restrictions on development in Silicon Valley have kept America’s unemployment rate higher than it would otherwise be. The pace of improvement in the national unemployment rate is determined by national macroeconomic policies, and primarily by the Fed. Faster job growth in Silicon Valley would have closed America’s output gap faster, thereby triggering, in all probability, a more hawkish posture from the Fed. That, in turn, would limit recovery to the Fed’s preferred path. From a macro perspective, Silicon Valley restrictions may have forced the Fed to work harder to raise employment, which then appears elsewhere – in New York’s financial sector, say, or in Ohio factories. My argument is primarily about the quality of growth. In my view, restrictions on growth in Silicon Valley affect job quality and the pace of growth in real output, productivity, and wages. I suppose one might say that America should have had a “better” recovery, according to this story, though not necessarily on in which unemployment falls faster. To get that, we need to see a bit of innovation in monetary policy.
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