Explaining Gentrification

There are more factors at play than just those related to the real estate market.
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There are more factors at play than just those related to the real estate market.
San Francisco's Chinatown. (Photo: Daniel Schwen/Wikimedia Commons)

San Francisco's Chinatown. (Photo: Daniel Schwen/Wikimedia Commons)

Like the term "brain drain," the definition of "gentrification" depends on whom you ask. When I discuss gentrification, I'm thinking about neighborhood improvements that displace (force out) current residents. If residents are not displaced, then we aren't talking about gentrification. Furthermore, I would distinguish between active gentrification and passive gentrification. Actively, former New York City Mayor Rudy Giuliani supposedly "cleaned up Times Square":

"'It's great to have him moving in here. It's very symbolic,' said Ellen Goldstein, director of community management for the Times Square Business Improvement District. 'He's the guy who chased out the porn, the three-card monte guys, the squeegee men from Times Square. Nobody would be building offices in Times Square if Rudy Giuliani hadn't been mayor.'" ("Giuliani to Take Office In Heart of Times Square," Newsday, 1/3/02)

Emphasis added. For active gentrification to occur, someone has to "chase out" people who occupy a place. Displacement is the cause. A "better" neighborhood is the effect. For passive gentrification, a "better" (better for whom?) neighborhood is the cause and displacement is the effect. The current rancor about gentrification is of the passive variety:

The benefits and costs of population growth occur in a way that practically guarantees highly restrictive building rules. The (large) potential benefits to would-be San Franciscans accrue to people who have no political power within San Francisco. The gains to San Franciscans from population growth are distributed very broadly; when a new building project allows more people to live in San Francisco, everyone in the city derives a small benefit from that growth—from the larger market size, greater opportunities for professional networking and knowledge spillovers, and so on. But the congestion costs associated with that new project are highly concentrated on the people living in the immediate vicinity of the new construction. There is a population level at which new growth entails net costs for all San Franciscans. But residents of San Francisco will limit new growth long before it reaches that level, because there will always be a strong constituency to block projects.

We therefore get highly restrictive building regulations. Tight supply limits mean that the gap between the marginal cost of a unit of San Francisco and the value to the marginal resident of San Francisco (and the market price of the unit) is enormous. That difference is pocketed by the rent-seeking NIMBYs of San Francisco. However altruistic they perceive their mission to be, the result is similar to what you'd get if fat cat industrialists lobbied the government to drive their competition out of business.

Anyone, from the well-intentioned to the nefarious, can be guilty of causing passive gentrification. Passive gentrification is happening all over the place these days. It isn't the result of some local policy such as Google buses or a mayor turning the fire hose on the homeless. This is where I differ from smart economists thinking about the gentrification problem. I see demand issues where everyone else is highlighting supply constraints.

Yes, supply matters. The smart economists also know and explain how demand for real estate matters. In order to address the passive gentrification problem, I contend we should focus on the demand side of the equation. The reason I give for this assertion is that passive gentrification is happening everywhere, regardless of local zoning regulations and constraints of physical geography. To make the point, "which city in the U.K. has seen the greatest property price growth over the past decade?"

Oil and gas – as well as a growing focus on renewables and the kind of logistical support and research investment that has transformed the so-called Granite City into one of the world’s leading centres of energy expertise – has propped up the Aberdeen economy in recent years, helping it to weather the recession well. Average house prices are now over 5 per cent higher than just a year ago, according to Rettie & Co, a Scottish estate agent – and 120 per cent higher than 10 years ago, which is, albeit from a low base, the biggest regional percentage rise in the UK.

If you live in Aberdeen and don't toil for Big Oil and Gas, then buying a home is a distant dream. The rental market is also tight. What's driving gentrification? A talent shortage:

A major industry-wide survey, produced by the Bank of Scotland, revealed more than seven in 10 firms in the sector based north of the Border are predicting they will expand. The number of new positions expected to be created is significantly higher than just a year ago.

However, concern is growing over a lack of skilled workers to fill jobs, with the increasing shortage described as "the bane of the UK oil and gas industry". Almost 40% of firms reported a skills shortage as their major challenge. ...

... "With most of the UK's oil and gas firms clustered in Aberdeen and the north-east, Scotland should reap the largest share of these new jobs. However, other parts of the UK will benefit from expansion plans."

A tight supply of global talent, not housing, is the problem. San Francisco is an old haunt for global talent. In 1970, the combined statistical area (CSA) of San Jose-San Francisco-Oakland sported the top per capital personal income in the United States. In 2010, the CSA was still number one. CSA income rankings are volatile, which doesn't say much for the supposed link between nice climate and winning cities. For per capita income in 1970, New York was second, Chicago third, Detroit sixth, Minneapolis seventh, Cleveland ninth, and Philadelphia tenth. The global economy, not weather, favored those places. Wherever wealth agglomerates, you will find passive gentrification. For a Rust Belt city such as Cleveland, the global economy moved elsewhere. San Francisco has been sun kissed for almost half a century.

Distilling the gentrification problem, a tension exists between the inefficiencies of the labor market and the inefficiencies of the real estate market. The inefficiencies of the real estate market receive all the press. What little attention the inefficiencies of the labor market receive, nobody links it to gentrification. Distilling the gentrification problem further, what is the disparity between a CSA's global labor market and its local labor market? Regardless of zoning, a neighborhood with residents working a global job will displace those working a local job. A massive increase in housing supply in response assumes status quo migration patterns. It also assumes status quo macroeconomic conditions. Zoning reform considers neither changes in migration flows, nor macroeconomic shifts. Just as manufacturing betrayed Detroit and Cleveland, innovation will betray San Francisco. Consider the solution to its gentrification problem as in the pipeline.