The Use of Knowledge in Urban Development

This post was written for an essay contest on the question “What would Hayek say today?”

Hayek and other Austrian economists demonstrated that government ownership of the means of production is a sure route to poverty, but today, central planning remains the norm in one crucial area: cities. In the United States, the Supreme Court determined that cities could designate sections of city land for specific types of development in the landmark case Euclid v. Ambler. Since then, land use regulation has expanded to include heights limits, parking requirements, and design guidelines across the world’s great cities. Urban planners and politicians determine the rules for the location and types of development permitted within their jurisdictions, and ultimately have veto power over major projects designed in the world’s great cities. If Hayek were alive today, he would focus on applying his work on the knowledge problem to city planning.

In the United States, progressive city planners began promoting restrictions on building height and density with the objectives of promoting light and air in the early twentieth century. At the time, these objectives were considered important for public health.  Property owners and policymakers soon realized that zoning tools could also be used to protect home values by preventing the construction of low-cost, high-density housing.

Today, property owners support a wide range of policies designed to limit housing supply and increase the value of their assets. These policies include minimum lot sizes, density limits, and parking requirements. While a large economics literature describes the regressive effects of zoning, these policies remain nearly ubiquitous in the Western world. They owe their persistence to powerful public choice incentives that lead policymakers to favor their current constituents over the unrepresented people prevented from moving into their municipality or neighborhood by restrictive land use regulations (Schleicher, 2012).

While the institutional landscape favors the continuance of restrictive zoning, land use regulations are not well-suited to shaping city design. Urban development is an information gathering process based on dispersed and tacit knowledge of entrepreneurs, like other market processes. As Hayek describes in “The Use of Knowledge in Society,” even if city planners have the best of intentions, they are incapable of accessing the information that would guide land and building resources toward their best uses in a free market (1945).

Unlike private sector developers, city planners do not experience profit and loss, leaving them without the single tool that can best direct the allocation of resources within a city over time. Israel Kirzner clearly explains the centrality of profit and loss in the market process:

The only difference between one market day and the following one was that plans made for trading during the latter day are based on estimates of prices learned through the market experience of the previous day. Agitation in the market was caused by rapid changes in plans made by the various participants as market experience steadily spread more information and repeatedly indicated fresh opportunities for profitable trade. When one superimposes upon this already complicated picture a particular pattern of unforeseen changes in initial commodity-endowments and in individual tastes, things become far more complex (1963).

With access to this powerful learning tool of profit and loss, property owners, developers, and consumers will improve the allocation of a city’s land over time with each day providing opportunities to buy, sell, and redevelop. This process leads to a city that relentlessly improves meeting consumers demands as entrepreneurs see individual opportunities to profit. Because this tool is available only to those with access to the profit and loss mechanism, city planners will never be able to equal the urban development success that a free market can. The absence of profit and loss feedback and the disperse nature of knowledge that leads to profit opportunities are the reasons that efficient resource allocation is impossible under central planning, as Hayek detailed in “Socialist Calculation: The Competitive Solution” (1940).

Urban theorist Jane Jacobs identified the same problem in city planning that Hayek revealed in economic planning. In her 1961 classic The Death and Life of Great American Cities, Jacobs even used language similar to Hayek’s, explaining the “the knowledge of the particular circumstances of time and place” (Hayek, 1945) as “locality knowledge” (Jacobs, 1961). Neighborhood residents have insights into the best use of the land in the few blocks that they traverse daily, but planners cannot access this disperse information because even the most well-intentioned planners are not omniscient.

Jacobs’ ideas have profoundly influenced urban planners, particularly within the Smart Growth and New Urbanist movements. These planners have absorbed Jacobs’ criticism of traditional zoning regulations that limit urban density and prevent mixed use neighborhoods. Traditional zoning leads to cities in which walkable development patterns are illegal and to the collapse of the emergent “sidewalk ballet” that she observed in New York’s Greenwich Village (Jacobs, 1961).

However, in those branches of urban planning where Jacobs’ observations on the benefits of dense, mixed-use neighborhoods have permeated, planners typically fail to realize that she espoused the potential for emergent order within cities when homebuilders, shopkeepers and residents are free to act in their own self interests. Rather, today’s progressive planners seek to mandate the type of development that Jacobs herself preferred as a matter of taste through regulatory tools such as urban growth boundaries, parking maximums, and public transit spending.

Smart Growth and New Urbanist city planners typically attempt to correct past government failures with new government regulations and programs. They fail to recognize that the key to allowing emergent order in cities is deregulation, permitting landowners to build the type of development that consumers demand (Washington, 2010). In Law, Legislation and Liberty Volume 1, Hayek demonstrates the importance of allowing individuals to rely on their own knowledge for decision making:

A condition of liberty in which all are allowed to use their knowledge for their purposes, restrained only by rules of just conduct of universal application, is likely to produce the best conditions for achieving their aims; and such a system is likely to be achieved and maintained only if all authority, including that of the majority of the people, is limited in the exercise of coercive power by general principles to which the community has committed itself (1978).

By attempting to engineer cities to fit their vision, planners of all persuasions violate this principle of liberty and, in doing so, prevent individuals from seizing mutually beneficial exchange opportunities to improve city design.

If Hayek were alive today, he would draw a parallel between markets and cities as dynamic processes, demonstrating the errors that city planners make when they attempt to build Jacobs’ emergent urban vision through regulation and fiat. Mises, Hayek, and Kirzner convincingly show that economies are not mechanistic and economic growth cannot be conducted from the top down. Likewise, cities are not machines; they are dynamic marketplaces that provide the spatial component of entrepreneurial activity (Ikeda, 2012). Attempting to direct urban growth from the top down limits a city’s ability to facilitate exchange and learning through the market process.

Today, federal government issues such as monetary policy, fiscal adjustments, and national economic development receive more attention from free market scholars than land-use regulation. However, it’s hard to overstate the impact that land use regulations have on individuals’ lives and on productivity growth. Researchers at the Santa Fe Institute have established that urban scale is related both to economic growth and to efficient use of public and private infrastructure (Bettencourt and West, 2010). Similarly, Harvard economist Edward Glaeser’s extensive body of research shows that urban density is vital to economic development and that without freedom to build, housing costs rise prohibiting opportunities for productivity growth (2012).

In a free market, cities will continuously move toward an equilibrium in which they are best suited to meet the needs of their residents, but land use regulations put a stop to this process. Because cities provide the spatial component of entrepreneurial learning, preventing these marketplaces from improving over time comes with a high toll in economic growth. Like markets, successful cities grow, but they cannot be made. Today Hayek would be writing about the importance of the urban development process that provides the space where entrepreneurship takes place.

The Value of Walkability

Last week DC Streetsblog reported on a new survey from Kaiser Permanente. The survey covers Americans’ attitudes toward walking and their self-reported walking habits. While a substantial majority of people believe that walking has health benefits ranging from weight management to alleviating depression, the survey found that most people walk less than the 150 minutes per week that the Centers for Disease Control and Prevention recommends. The Streetsblog coverage attributes a lack of walkable infrastructure to low walking rates, although it’s not clear to me that the survey explicitly supports this conclusion. However, past research demonstrates that people who live in neighborhoods where they are able to complete errands on foot do, unsurprisingly, do walk more than those who don’t.

While people may not cite walkabilty as an important consideration in choosing a house, choosing a home involves weighing many factors, from size, price, distance to work and other amenities, aesthetic, and countless others factors. Consumers rely on tacit knowledge to weigh many of these factors because they can’t consciously enumerate all of them in making a decision of where to live.

For this reason, revealed preference theory is a more reliable tool than survey data for observing how consumers value one attribute of a complex good like housing. Building on a past project, my colleague Eli Dourado and I are studying whether or not consumers do pay a premium for greater neighborhood walkability. Using a fixed-effects model, across all metropolitan and micropolitan statistical areas in the United States, our preliminary results indicate that, on average, Americans are willing to pay a premium of about $850 for a house with one additional point in Walk Score. Because of the many restrictions that limit walkable development, consumers have to pay this premium for the scarce supply of houses in walkable neighborhoods.

This finding also indicates that, in a world with fewer regulations limiting the supply of walkable development, the free market would provide a greater supply of walkable neighborhoods because developers have opportunities to profit from doing so that are currently prevented by regulations. In a freer market, more people would have the opportunity to live in neighborhoods where completing daily errands on foot is feasible. These findings don’t tell us what, if any, public health improvements would be seen from more people living in walkable neighborhoods, but they give us a clearer picture of the value people place on walkability than survey data does.

Market suburbanistsoften cite survey data finding that most people prefer detached, single family homes to living in multifamily housing. They also often say that revealed preferences back up these surveys because most Americans live in single family homes. Indeed, this is true, even in the largest cities. However, looking at the housing choices that Americans make while ignoring both regulations that limit the potential choice set and without considering the prices consumers pay is misleading, like saying Americans prefer Fords to BMWs because there are more of them on the road.

An understanding of consumers’ complex decision process in selecting a home cannot be accurately gleaned from either survey or Census data; rather, this information should be observed based on the price that emerges between buyers and sellers in the market. While, all else equal, most people might prefer a large detached house with a big yard, in weighing the many factors like proximity to amenities, price, and house size, we find that people are willing to pay a premium for walkability.

While I’m not prepared to make any claims about health benefits from permitting more walkability, it is clear that people are willing to pay a premium to live in more walkable neighborhoods and that in a freer market, more walkable development would be provided.

Local Greenhouse Gas Rules Likely to Backfire

Next week the Cambridge City Council will consider a petition to require new or newly renovated buildings of 25,000 square feet or more to be net-zero emissions. Under the rule, any energy that buildings use beyond what they produce must be sourced from approved, renewable energy sources. While intended to reduce greenhouse gas emissions, the rule would have some easy to foresee side effects:

Jeff Roberts, a land use and zoning project planner for the city, said the cost of developing what is being called “net zero” buildings could be passed on to tenants, and could drive away new development.

“There’s always the possibility that this would create a shift–that the cost might cause development that would otherwise occur in Cambridge to occur in other communities that don’t have similar requirements, such as Boston or Somerville or suburban areas,” Roberts said.

With this rule, Cambridge would follow in the path of other cities that have attempted to reduce greenhouse gas emissions at the local level. Santa Monica has been one of the municipalities leading the way on  attempts to reduce greenhouse gas emissions since 1994. The city has adopted its own standards for greenhouse gas reduction, but has made little progress toward its defined targets, today using 35% more electricity per household than the average California household does. While the environmental activists that support these local-level rules surely realize that greenhouse gases do not recognize political jurisdictions, local greenhouse gas emissions reductions in cities like Santa Monica and Cambridge miss the real opportunities to reduce reliance on fossil fuels.

It’s unsurprising that very left-leaning cities have pioneered these types of rules, but in doing so, these cities are missing the real opportunities they have to reduce emissions. Santa Monica is one of the most walkable places in the Los Angeles area, offering opportunities for those in other LA neighborhoods to switch to a lower-greenhouse gas lifestyle by moving there. However, density restrictions and a complex entitlement process reduce building supply there. While the city is seeking to reduce carbon dioxide emissions among its own residents, it’s simultaneously preventing the development of new, higher-density development that could reduce more Los Angeles residents’ demand for driving.

Similarly, Cambridge has a Walk Score of 82, along with better transit access than many Boston suburbs. The proposed “net zero” rule would take away opportunities for people to live in Cambridge, likely pushing them to suburbs where they will probably lead higher carbon emission lifestyles than they would have in Cambridge. While local policymakers and activists may want to feel like they are doing something to reduce greenhouse gas emissions, they should first look at the existing regulations that promote greenhouse gas emissions rather than implementing a new regulations with its own unintended consequences.

The effect of Santa Monica’s infamous rent control policy has diminished because the rules don’t apply to all new buildings, but a plethora of regulations reduce the city’s supply of dense, rentable housing. In Cambridge, minimum parking requirements act as an obstacle to new residential and retail growth, pushing this growth to the suburbs instead. If policymakers and activists in the cities that are charting new territory on local greenhouse gas emissions care about carbon emissions more than the political credibility of being seen as doing something, they should seek deregulation in their cities rather than adding new regulations that will further restrict growth in dense, walkable areas. At the very least they should not pursue rules that will drive more carbon emissions to neighboring municipalities.

Urban-Rural Political Alliances Hurt Cities

While House Republicans have stripped food stamp benefits from the farm bill to get enough votes to pass the bill’s agricultural supports,  the Supplemental Nutrition Assistance Program may be added back into the bill in conference with the Senate. The farm bill get its strength because it aligns the interests of urban Democrats and rural Republicans in Congress, facilitating log-rolling where the majority of congressmen are willing to support the bill because it directly benefits their districts.

While the food stamp program has in the past made up a large portion of the bill’s costs, with these these funds flowing primarily to urban residents, urbanists should be leery of the urban-rural alliance that facilitates continued support for the farm bill. Aside from the primary cost drivers including nutrition programs and farm supports, the bill also includes measures like rural broadband and rural utilities services loans designed to subsidize living in areas where providers do not find it profitable to provide services.

Unlike SNAP benefits, which are available for rural and urban residents based on income, rural infrastructure support is allocated to locations rather than individuals. Providing subsidies based on location is hugely attractive to Congress because it allows members to provide concentrated benefits directly to their constituents. However, subsidizing individuals’ choices to live in areas where building infrastructure is inefficient limits economic growth potential. Cities provide better job opportunities and are centers of innovation, so policies that subsidize rural living don’t make sense.

While the farm bill is a clear example of an urban-rural alliance that facilitates these subsidies, many programs similarly subsidize infrastructure in rural areas from USPS providing flat-rate delivery to the Essential Air Service program that subsidizes service to 163 airports that would otherwise not be profitable. Because all senators represent states with rural post offices and most have constituents who use airports in the EAS program, the political system is set up to maintain these subsidies that lead some people to choose to maintain a rural lifestyle.

This isn’t an argument that city residents aren’t getting their fair share of federal spending; in fact, residents of urban counties received more per capita spending than those is rural counties (link to 2010 data, the most recent available). Rather, urbanization is a process that provides benefits both to those who move to cities and those who live there through greater economic innovation and cultural diversity, so the political gains of rural subsidies come with high costs. As Ed Glaeser explains, urbanization is a key part of economic growth within the United States, with people in cities being more productive than those who don’t. “the three largest metropolitan areas producing 80% of GDP but containing only 13% of population.”

Rural living has its own set of advantages that individuals should be free to choose if they like, but this lifestyle choice should not be subsidized by those who choose to live in cities and suburbs. Subsidies should follow individuals rather than locations to avoid discouraging urbanization.

Detroit’s art is not the key to its revival

Detroit’s art assets have made news as Emergency Manager Kevyn Orr is evaluating the city’s assets for a potential bankruptcy filing. Belle Isle, where Rod Lockwood recently proposed a free city-state may be on the chopping block, but according to a Detroit Free Press poll, residents are most concerned about the city auctioning pieces from the Detroit Institute of the Arts’ collection.

I’ve written previously about the downsides of publicly funding art from the perspective of free speech, but the Detroit case presents a new reason why cities are not the best keepers of artistic treasures. Pittsburgh’s Post-Gazette contrasts the Detroit Institute of Art’s situation with the benefits of a museum funded with an endowment:

As usual, Andrew Carnegie knew what he was doing.

The steel baron turned philanthropist put the City of Pittsburgh in charge of operating the library he gave it in 1895, but when he added an art museum to the Oakland facility just one year later, he kept it out of city hands.

“The city is not to maintain [the art gallery and museum],” Carnegie said in his dedication address. “These are to be regarded as wise extravagances, for which public revenues should not be given, not as necessaries. These are such gifts as a citizen may fitly bestow upon a community and endow, so that it will cost the city nothing.”

Museums and other cultural amenities  are a sign of a city’s success, not drivers of success itself. The correlation between culturally interesting cities and cities with strong economic opportunities is often mistakenly interpreted to demonstrate that if cities do more to build their cultural appeal from the top down, they will encourage job growth in the process. Rather, a productive and well-educated population both demand and supply these amenities. While an art museum may increase tourism on the margin, it is unlikely to draw additional firms or individuals away from other locations. Detroit is sitting on an estimated $2.5 billion in art, enough to put a dent in its $15 billion long-term obligations.

On a recent episode of Econtalk, Ed Glaeser explains that over investing in public amenities relative to demand is a sign of continued challenges for municipalities:

It is so natural and so attractive to plunk down a new skyscraper and declare Cleveland has ‘come back.’ Or to build a monorail and pretend you are going to be just as successful as Disney World, for some reason. You get short-term headlines even when this infrastructure is just totally ill-suited for the actual needs of the city. The hallmark of declining cities is to have over-funded infrastructure relative to the level of demand in that city.

Similarly, cities throwing resources at museums and other amenities designed to attract the “creative class” are highly likely to fail because bureaucrats are poorly-positioned to learn about and respond to their municipalities’ cultural demands. When cities do successfully provide cultural amenities, they are catering primarily to well-educated, high-income residents – not the groups that should be the targets of government programs.

I think it’s highly unlikely that Detroit will sell off any taxpayer-owned art to pay down its debts based on the media and political blow back the possibility has seen. However, seeing the city in a position where it owns enough art to cover a substantial portion of its unsustainable long-term debts demonstrates why municipalities should not be curators. Tying up municipal resources in art is irresponsible. The uncertainty that the city’s debt creates for future tax and service provision is clearly detrimental to economic growth. While assets like museums are nice for residents, they do not attract or keep residents or jobs.

Detroit does have an important asset; new ideas need cheap rent. Detroit’s affordable real estate is attracting start ups with five of the metro area’s young companies making Brand Innovator’s list of American brands to watch. While these budding businesses could be key players in the city’s economic recovery, top-down plans to preserve and increase cultural amenities for these firms’ employees will not.

Newest Offering from Fundrise Goes Live on Monday

H Street

906 H Street NE

On Monday, Fundrise will make their newest offering at 906 H Street NE in DC available to investors. Many real estate journalists have covered this innovative investment company’s crowdsourcing strategy, with Urban Turf naming Fundrise a top real estate trend of 2012. This development is the company’s second crowd-sourced project and their third property on H Street. Without special approval, publicly advertised offerings can only seek funding from accredited investors, but Fundrise has has gone through a cumbersome process through DC, Virginia, and federal securities regulators to permit any individual to invest in their newest offering with a $100 minimum investments.

Because of the high regulatory hurdles standing in the way of marketing public offerings to a broad audience, Fundrise is currently the only group in the country doing so. Daniel Miller, Co-Founder of Fundrise, explained that he thinks crowdfunding has significant potential to improve incentives for focusing on the long run in development. From an urban development perspective, one benefit of crowdsourcing is that small companies do not face the same pressure to post quarterly profits that larger, publicly-traded firms do. Because real estate is a long-term investment that doesn’t always demonstrate profits on a timetable that’s attractive to Wall Street investors, crowdsourcing provides an opportunity for development financing that will not have a short-term bias. The difficulty in getting legal approval for small investors, however, demonstrates the regulatory bias in favor of large firms. Daniel said:

When you’re invested in a broader portfolio like a REIT that owns 400 or 500 malls, it’s very difficult to measure success because there are only financial indicators. But if you’re invested in a single property — the tenant is open, he’s paying rent, he has good sales — it’s much easier to measure success. There’s transparency in reporting. A lot of these big companies don’t give you a lot of information on individual properties. We think that this blend of a single asset that is easier to understand with transparent reporting is going to make people focus less on short-term profits and actually understand the individual asset.

Both financial regulations and local entitlement processes have created bias toward large developers and toward repetitive development patterns. Crowdsourcing offers an opportunity for smaller scale projects with the potential to be simultaneously more innovative and lower risk. Daniel pointed out that crowdsourcing connects a development to its customers. “Over time as there are more crowdfunded projects, we think those are more likely to be successful in terms of having better sales, in terms of having support from the neighborhood, and in terms of getting through entitlements,” he said. “I think that local investors are going to take a lot of risk out of the project. By better linking supply and demand and having more people support that investment, we think that provides a better chance of that business succeeding.”

From a tax perspective, crowdsourcing in real estate offers investors the same well-publicized advantages that they can achieve in a REIT. Daniel explains, “Right now we are structured as an LLC, but we have the same tax advantages as a REIT. There’s no double taxation — income and losses are passed through to the investor, so it’s about the most tax efficient vehicle possible. A REIT was created to allow the general population to invest in real estate, so in some ways what we’re doing is a return to the original REIT concept. But we’re focused on individual properties rather than nationwide portfolios because we think that when people invest in their own neighborhood, there are social benefits to that.”

In addition to introducing increased transparency into measuring development success or failure, crowdsourcing may help projects make it through the entitlement process. Daniel said this may have been the case with Fundrise’s first crowdsourced project. “We had a bunch of investors email the permit office for 1351 H Street and email their council member to help get the permits. Particularly with entitlements and liquor licenses, we think that transparency and having investors communicate with permit offices is really going to help move it forward and speed up the process.”

If you’re a DC or Virginia resident interested in investing in 906 H Street NE, create an account at Fundrise and register to get priority access. “I think it’s exciting that this is most people’s first chance to invest in commercial real estate,” Daniel said.

NYC Market Urbanism Meetup Sunday, April 21

Anthony Ling of Rendering Freedom fame will be visiting New York from Brazil this weekend.  We’ve planned a meetup in Williamsburg Brooklyn at 5:30 pm this Sunday, April 21.  (venue to be determined)  Come meet Anthony and some of the Market Urbanism crew.  All are welcome.

Hope to see you Sunday,

Adam

Update:  Per Stephen, we’ll meet “outside of Crif Dogs at Driggs & North 7th…it’s a specialty hotdog place (very Williamsburg).:

Many Market Urbanist Elements in DC’s Zoning Rewrite

Yesterday at Slate Matt Yglesias pointed out the poor logic behind AAA’s opposition to the elimination of some parking minimums in the DC zoning reqrite. AAA is not alone, joined by many DC residents who oppose the rewrite that will introduce some deregulation in parking requirements and zoning. The rewrite includes a few basic changes, and Greater Greater Washington provides excellent coverage of each:

Initially, the plan included a proposal to switch from parking minimums to parking maximums, but fortunately this proposal was rejected in favor of allowing developers to build parking based on what they think will be profitable, allowing for a freer market in parking. Now, those who assert that eliminating subsidies to driving amounts to a “war on drivers” are left without basis for their argument.

I am not too enthusiastic about the zoning rewrite because it doesn’t go nearly far enough in permitting a greater supply of housing. It makes no significant changes to allowable floor area ratios, only permitting greater density by tinkering around the edges. However, as the zoning update is focused on simplifying the zoning map and allowing some increased freedom for developers to build what they think consumers want, it is in many ways a step toward market urbanism. It will benefit some homeowners and their renters by permitting accessory dwelling rentals. Additionally the attempt to simplify the Planned Unit Development process could improve rule of law in DC development and take steps toward leveling the playing field for developers.

Perhaps the most significant element of Smart Growth — as opposed to traditional urbanism — remaining in the draft plan is the Green Area Ratio requirement. The GAR will apply to new developments and to renovations where the cost of renovations exceed the building’s assessed value. Depending on how developers find it feasible to meet GAR requirements, these rules may lead to Corbusian development, with green space that creates dead space for pedestrians rather than a more interesting environment. Worse, the GAR requirement will act as a deterrent to renovations for existing buildings in cases where adding green space is cost-prohibitive. Like parking requirements which have made it difficult to re-purpose historic buildings after their original uses are no longer viable, the GAR would place unnecessary restrictions on small businesses starting new uses in existing buildings. The draft rewrite suggests that some historic buildings could get exceptions to the requirement, but a new type of exception introduces further subjectivity into the entitlement process.

As Greater Greater Washington points out, most of the changes that are part of the new code permit traditional urban development rather than setting new requirements. The reason for the rewrite is to eliminate some of the negative consequences that the existing 1958 code has produced by requiring developers to subsidize drivers with parking and preventing people from renting out their homes. The GAR is the exception to the pattern of deregulation in the updated code, and as such it brings with it the possibility of unseen costs and unintended consequences.