Are we being a bit dense about productivity?

Taking the long view

There has been a lot written about the virtues of a high density city and a thriving CBD.  I have no issues with either of these notions, but let’s at least understand the dynamics before we concoct policy to try to bring them about. 

High density does not necessarily mean a city is more productive, or wealthier, or more sustainable.  It just means more people live or work in a smaller spaces.  This may be because of a land shortage - think Japan and its cities.  (I hope this is not what planners have in mind for Auckland).  Traditionally, high density living is associated with less wealth, lesser lifestyles, and public health challenges. 

The long view of the west since the Middle Ages has been one of increasing real wealth and falling densities.  Especially since the 18^th century greater personal mobility and enhanced material standards have been implicated in healthier, longer lives and greater social equity. 

Much as I rail against conservative planners, reversing this trend is something we should be wary about, especially when crowded cities are associated with social disparity and ageing urban infrastructure with greater risk of disruption.

The transport tail wagging the density dog

Yet today’s planners and policy-makers not only try to restrict development to increase densities, but also promote transport investments in the belief that they will make it happen. 

Instead of designing a public transport system that might serve our particular form of settlement in Auckland, we are designing one which is intended to change the shape of the city.  The New Zealand Herald (3 December 2010) quotes transport expert from the University of Sydney, David Hensher, as “absolutely amazed” that we would even consider rail given Auckland’s relatively low density.  It would be far more cost effective, he thinks, working on extending our busways.  At least that way we could get public transport to where people want to live and work and we could keep it flexible to meet changing needs.

Of course, one of the interesting things about rail-based public transport is that if it works it encourages long-distance commuting, and lower densities.  This, in turn, increases the distances travelled for non-work purposes. 

And then the transfer of travellers from private to public transport increases capacity on key roads, encouraging additional travel and promoting further suburban and exurban growth.  That’s why sweeping statements that “transport investments serve to facilitate higher densities” [1] have to be taken with a grain of salt. 

The density myths

I want to challenge what I see as some of the myths about city density.  I want to deal in this blog with the proposition that actively increasing density improves aggregate (or individual) productivity.  There are a couple of myths that I will tackle subsequently.  One is that increasing density will increase the health of the urban economy.  The other is that to save the city we must preserve the CBD. 

The productivity story

I have already queried the role of city size and density in urban growth in earlier blogs, mainly because it hasn’t apparently helped Auckland over the past decade.  Being concentrated in the region is more likely to be a disadvantage than an advantage to business. 

Despite this, the policy argument goes along these lines:

·         Large cities grow faster than small cities;

·         The higher densities associated with larger cities foster higher productivity (value added per worker);

·         Therefore if we force higher employment densities by regulating land use we will boost productivity and cause the economy to grow;

·         We can also increase employment densities in certain parts of the city by delivering public transport commuters to them;

·         These transport nodes will become fast growth areas and this growth can be attributed to  both public transport investment and consequent higher employment densities.

This reasoning supports policies to: (1) limit land availability for business and the view that business would be better off redeveloping “brownfield” sites or intensifying on existing sites because that will improve productivity;  (2) subsidise otherwise uneconomic public transport.

The evidence – marginal at best

Those are big – and potentially very costly – policy calls.  Just how much confidence can we have in them?  What does the supporting analysis say?

In New Zealand we relied for some time on overseas analyses, but since the mid 2000s we have developed a local evidence base using econometric research.  David Maré’s 2008 study is the most widely cited, and suggested a substantial productivity “premium” accruing to Auckland and, within the region, the CBD.  [2] This work has been called on, for example, to support the recent business case for an underground rail loop in Auckland.[3]  But just how robust is it for policy purposes?   

At best the evidence is weak with respect to the possibility that higher densities bring about higher productivity.  At worst, while the analyses may be technically correct, the policy assumptions that follow may be plain wrong.

The complication of composition

The growth of a national, regional, or urban economy over time naturally leads to a “sorting” of businesses.  This “composition” effect means that some places have businesses within them – for all sorts of historical reasons – that produce higher value goods or services than other places.  The composition effect based simply on classifying firms to sectors explains half of the apparent productivity premium identified by Maré. 

Even this may be conservative, though.  The two digit classification of firms he used still hides considerable diversity among firms in the same sector.  These differences are likely to explain a lot more than areferring simply to the generalised sector each belongs to. 

Maré also estimated the relationship between density and productivity in Auckland. His analysis siggested that 10% higher density is associated with 0.86% higher productivity.  This is not a huge gain when we consider what might be entailed by way of public spending and regulation to bring about a 10% increase in density.  There have got to be easier ways to increase productivity.

In any case, is this really a cause and effect relationship?  Maré's estimate came from a static analysis.  Establishing a dynamic relationship, such that when one item changes another follows, is more difficult.  Maré could not estimate a “robust” positive relationship over time, and called for more work to be done. Even if he could have demonstrated a dynamic relationship, we are still stuck with chicken or egg ambiguity – does higher productivity in fact lead to higher densities?

It gets shakier

Maré and Daniel Grahams' subsequent work for NZTA is even more circumspect.  Based on comparisons across New Zealand regions, it suggested that firms at locations with 10% higher density are 1.7% more productive.  But firms in different regions tend to do different things.  Observable differences based on 15 categories to allow for industry mix actually accounted for 70% of the density “premium”, dropping the productivity gain aacross a 10% density increment rom 1.7% to 0.5%.  (Incidentally, the figure for Auckland is down from 0.86% to 0.76% in this analysis).

Making sure we are doing the right things in the region is far better, I would have thought, than increasing densities and hoping this makes companies stronger.  The harder it becomes it invest in new activity, the more likely we are to be locked into yesterday's industries.

Oops - maybe Auckland is the wrong place

Maré and Graham explored different ways of estimating productivity effects, allowing for differences among enterprises and for sector mix within regions.  I drew the following conclusions from their analysis – although I concede some of the subtleties eluded me:

(1)    The predominant impact on the productivity-densities relationship is sector mix in a region;

(2)    Within Auckland, the stronger relationships and therefore the purported potential for gains from increasing employment densities are associated with the predominantly rural, low density areas of Rodney and Franklin, followed by Manukau, not the old Auckland city;

(3)    There are diminishing returns to agglomeration: productivity gains associated with density are higher in low density areas and lower in high density areas;

The results suggest that we might better concentrate on connecting and intensifying development in areas of relatively low density rather than trying to shoehorn more into areas that are already relatively dense.  When we take into account the relative costs – public and private – of trying to lift already high density localities this makes even more sense. 

Perhaps we need to revisit the notion I advanced to the Metropolitan Auckland in 2006 - let's lift our sights and consider the economic potential of the northern North Island, and begin to think about connectivity and opportunity on a wider canvas.

And shakier

The evidence regarding “productivity premia” in some places rather than others appears just too weak to support land use policies designed to enforce higher densities or to justify lifting urban densities as a rationale for transport investment.   

Daniel Graham is quite explicit on this matter in subsequent studies:

A key conclusion is that we are unable to distinguish agglomeration effects from other potential explanations for productivity increases, most notably functional heterogeneity.  Consequently, the agglomeration effects of transport investments cannot be interpreted causally.  [4]

Digging into heterogeneity – the occupational dimension

Heterogeneity- - a fancy word for diversity – almost inevitably overwhelms any econometric attempt to measure a relationship as weak as that between density and productivity.  The analysts try to control for the sector a firm is in, but that still hides a whole heap of heterogeneity.

Sectors are not the only things that vary between places.  Occupational mix is critical, for example.  The 2006 New Zealand Census showed that 19% of employment in Auckland region fell into the category “Legislators, Administrators, and Managers” compared with only 14% in the rest of New Zealand and 21% in the CBD.  Another high value category, Professionals, made up 18% of Auckland’s employees, 25% in the CBD, but only 15% in the rest of New Zealand.  Similarly, Technicians and Associate Professionals made up 19% of employees in the CBD, 15% in the region, but only 12% in the rest of New Zealand.

Jointly these high value added occupations make up 66% of Auckland’s CBD workforce, 50% across the rest of the region, and 42% across the remainder of New Zealand.  Such pronounced labour market stratification will account for differences in value added per worker even within firms and sectors.

Conclusion –make it easier to do business to make Auckland grow

Quite simply, the higher order, management, control, and negotiation jobs tend to end up in big centres.  This facilitates a range of local, national, and international transactions that they are associated with.  The challenge for planners is to make it easier, though, and not harder for them to locate in the region.  Imposing congestion and over-the-top infrastructure costs associated with promoting a high density city might just have the opposite effect, discouraging local investment and employment.

The benefits that firms might be looking for by heading to the principal commercial centre in a region or nation can be delivered by the quality of transport and communication links for the conduct of business, and the quality and cost of living to sustain a healthy labour market.  But if we make it too hard for them to locate at a suitable site in Auckland – whether or not that is in the CBD – the continuous improvements in transport, mobility and communications that we are witnessing today might just make it easier for them to leave or bypass the region.

[1]  Maré D and Graham D (2010) Agglomeration elasticities in New Zealand, NZ Transport Agency Report 376

[2]               Maré D (2008) Labour productivity in Auckland firms Motu Research Paper 8-12

[3]               APB&B (November 2010) Business Case Auckland CBD Rail Link for KiwiRail and ARTA

[4]               Graham DJ and Ven Dender K (2009) Estimating the agglomeration benefits of transport investment: Some tests for stability Discussion Paper 2009-32, Joint Transport Research Centre, OECD

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Is bigger better? Trying to reshape Auckland’s lagging economy

Getting Auckland growing – a national policy imperative

It has become conventional wisdom that New Zealand’s performance depends on Auckland’s economy, and that this in turn depends on agglomeration – the supposed economic advantages associated with large cities. 

But is Auckland really the driver of New Zealand’s growth?  It would be nice if it was, if innovation and investment in urban business was the main source of our prosperity.  And hopefully it will be a major contributor one day.  But the truth is, as I pointed out earlier, the country remains dependent on the fortunes of our non-urban sector. 

So how are we going to wind Auckland up from being a place where consumption and income redistribution are concentrated, to be the focus of national economic growth?

Promoting agglomeration to promote economic development

 Policy advisors make much of the virtues of agglomeration – sheer city size – as a driver of growth. [1] By concentrating in our largest urban area, businesses are presumed to reap productivity benefits.  Is this right?  And is it sufficient to drive national economic performance?

The benefits to firms of locating in large urban areas were first discussed late in the 19^th century by economist Alfred Marshall. The low cost of transactions with nearby businesses, shared access to specialised services and suppliers, a common labour market, and information sharing explain the advantages enjoyed by firms in big cities.

Arguments underpinning agglomeration economies are firmly rooted in the industrial age.  So they are questionable when wealth is associated with services as much as goods, logistics companies integrate international transport, communications are seamless, and capital moves easily to most places in the world.

There is still some statistical evidence to suggest that firms in bigger cities (or states) might grow faster than in smaller ones.  The difficulty, though, is in separating differences in performance from differences in the fine mix of products, services, and occupations that naturaly concentrate in larger cities in response to the larger markets there in a cumlative process that is not necessarily economically rational. 

But does it lend itself to policy?

Despite this, agglomeration theory has been adopted by policy makers in two areas. First, has been promotion of concentrations or clusters of businesses as a growth policy.  Second, compact city advocates argue that a higher density of employment in large cities is a path to higher productivity. 

Leaving aside possible flaws in data, methods, and assumptions, the statistical evidence reveals at most 10% gain in aggregate productivity for a 100% increase in employment density.  More commonly the estimated gain is half that.  Anyway, any estimate is so influenced by method and measurement as to undermine any confidence in policy based on it, as demonstrated in a recent report by Motu Research for the New Zealand Transport Agency. 

Surely there are easier, less costly ways to gain a few percentage points in productivity and output: to do with the quality of the labour force, for example, the quality of investment, or commitment to research and development?

Living in policy dreamland

As far as I can see from reading many international studies on agglomeration, the cost of lifting the capacity of ageing infrastructure within existing urban areas rarely gets a mention.  In trying to reveal cause and effect from within a tangled web of associations, the studies assume away the actual costs of increasing land use densities.  They ignore the quite different circumstances and histories of the cities and states bundled into their samples.  And they often mistakenly infer investor and firm behaviour on the basis of trends among cities. [2]

Transforming the buildings and infrastructure that make up a city to increase land use densities in the hope that businesses will screw more out of their investments is a very costly exercise.  The impact on the quality of urban life is also likely to be unacceptable.  Crowding and congestion, the unreliability of over-capacity and dated infrastructure and network services, and increased risk of service disruption mean that significant increases in density are unlikely to be sustainable even if they can be achieved without a fiscal blow-out.

Quite apart from the economic and political naivety of jumping from quantitative analysis to policy prescription, is bigger better anyway?  A simple look at recent history does not show that it is.

Auckland is already bigger – but is its performance better?

A focus on Auckland’s growth presumes that it is our only city big enough to have an international presence, so that we should focus policy and plans on reaping agglomeration benefits there. 

To explore this presumption we look at how well Auckland has done recently.  In 2000 the region had 32.6% of New Zealand’s employees, nearly two and half times Canterbury’s employment. [3] Surely this spectacular concentration of economic activity would become apparent in Auckland’s superior performance?  if agglomeration economies are to be evident anywhere, they would show up here.

Well, no.  Look at the graph.

Auckland’s employment growth lagged Canterbury’s through to 2010. It lagged non-metropolitan New Zealand (areas outside Auckland, Canterbury and Wellington).  And when the global financial crisis hit in 2007, Auckland’s employment fell faster.  Even Wellington, trailing early in the decade, was not hit as hard, down just 0.7% from 2007 to 2010 compared with Auckland’s negative 2.8%.

Naturally Auckland still dominated national employment in 2010 (32.4% of the total), but according to the theory that dominance should have increased not diminished.

So how do we explain this?

First, maybe the economic benefits of agglomeration are overstated.  Tthe empirical evidence tends to be generalised and static.  Despite the growing complexity and apparent precision of analyses, the causal impact on firm performance of lifting urban densities remains fuzzy and trivial. They are a weak foundation for policy.

Second, I suspect that all those factors assumed away in the analyses are actually important in the real world.  We cannot exclude the physical environment of individual cities, their history, the condition of sunk capital (public and private), different regulatory environments firms, and stocks of human capital, skills, and experience. To assume that proximity and density have a predominant influence over the investment and operation of firms seems naive.  And we cannot ignore the external costs of over-concentration.

Third, what if it really works? What if the secret of economic growth is simply being the biggest city? And at the sam time, what if breaking down economic barriers means that the advantage of size is measured across nations, not just within them?  Where does this leave Auckland?

New Zealand economy’s is increasingly integrated with Australia’s. Labour, capital, goods and services move relatively easily between the two countries.  Where does New Zealand stand in an Australasian urban system?  The second graph gives us some clues. Look at where Auckland stands in the bigger picture.

Australia’s metropolitan areas outperformed their New Zealand counterparts between 2000 and 2007. [4] In percentage terms, Sydney was a bit of a laggard.  But this simply confirms that being biggest is no guarantee of top performance.  Melbourne outstripped both Auckland and Sydney. 

More interesting were the second tier cities, Brisbane and Perth. With just 12% of Australasian metropolitan employment in 2000, Brisbane accounted for 18% of its growth!  Compare this with Sydney: with 29% of employees in 2000, it accounted for just 22% of subsequent growth.

Auckland had 7.8% of Australasian metropolitan employment in 2000 but accounted for only 7.1% of growth, significantly less than Perth (11.8%) and a little more than Adelaide (6.8%). 

Two simple conclusions 

One, in a global economy we cannot reap greater economic benefits from urban agglomeration than our Australian (or, especially, our Asian) neighbours. Being the biggest city in New Zealand offers no particular advantage in an international economy.  We have to find a different way.

Two, in both Australia and New Zealand, being biggest does not guarantee topping the economic performance tables.  Let’s do what needs to be done to make Auckland a great place to do business.  But size is certainly not everything in these stakes.

Sure, these are broad comparisons based on general data, but if we think that promoting agglomeration holds the policy key to Auckland’s – and New Zealand’s – economic performance, we need to think again.

[1]        E.g., Ascari Partners (2007) Assessing Agglomeration Impacts in Auckland: Linkages with Regional Strategies, Report to Auckland Regional Council

[2]           It is a mistake to infer the behaviour of individuals from the behaviour of populations, the so-called ecological fallacy. There are exceptions, e.g., David Mare’s Labour Productivity in Auckland Firms deals with micro-level data in an attempt to reveal the impact on individual firms of locating in Auckland

[3]           Based on employment data from the Statistics New Zealand Business Directory. 

[4]           Labour market data is for the major statistical regions in February so that the figures are broadly comparable with the New Zealand Business Directory figures.

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