Odd LotsWhen it comes to the collapse in office real estate, there's a lot of focus on who owns the debt, and what kind of pain must eventually be realized by someone. But there may be an even deeper challenge for big cities like New York or San Francisco. Office buildings, and the various restaurants and shops that cater to daily workers, are big contributors to the tax base of many cities. What happens if that goes into decline? In theory, you can get a doom loop of population loss leading to lower activity, leading to lower taxes, leading to lower spending, leading to worse public service, leading to more population loss and on and on it goes. So is that still a risk in 2024? On this episode we speak with Arpit Gupta, associate professor of finance at New York University's Stern School of Business, who has been tracking this risk for awhile. He gives an update on where things stand and why some of the pain may still be possible in the future.
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Hello and welcome to another episode of the Odd Lots Podcast.
I'm Joe Wisenthal and I'm Tracy Alloway.
Tracy, So, you know, we had that conversation the other day with rich Hill Cohenan Steers, and you sort of put like a maybe not too gloomy gloss on.
The commerci not too gloomy gloss, not too gloomy gloss.
It's a good one, uh like not great, but like maybe like not terrible. That like price discovery is happening. It's not great, but it's salvageable. There's still room for extending and pretending it's not the end of the world. Like, you know, not great, but not terrible.
Yeah, And I think to some extent, we've seen that out in markets in recent months. Right, So there were all these stories about the looming maturity wall. Yeah, a lot of those loans, a lot of those bonds have been refinanced, a lot of companies are surviving, a lot of building owners or real estate developers seem to be surviving under the new conditions. But I guess the wild card in a lot of this is still what happens with interest rates.
Here's what I don't get though, Like, at least when we're talking about office and when we're talking about office real estate in big cities, the vacancy rates keep going up. And I sort of thought that would stop, because you know, especially in the middle of last year, you saw a number of pushes where companies like, no, we're serious, it's return to the office time, guys, And so I was like, oh, okay, like that was it, this was the turning point. And yet I think by like at least top line metrics, if you just sort of look at offices and the empty ones, things continue to deteriorate.
Office buildings are still empty in places like New York and San Francisco. This is very true, but I think really ate, like people still want to live here residential real estate. I mean, I think those vacancies are pretty low. So there is this like there's this tension where people still want to come to the city, it feels like, or at least move here, but they don't want to go into the office, which fair enough I sympathize.
So just a full disclosure or you know, my own stake in this story, which is that last year I bought an apartment in Manhattan. So I am really invested in the idea that Manhattan continues to be a thriving, going concern with people on the streets, looking around, moving about. I feel like that's you know, it's good. It feels good for safety, things like that. I really need this whole thing to hang together.
And I'm on the opposite side of this trade, I think where I have no Manhattan ownership. I rent, I would like the rent to go down actually, and I have a house out in the country. So yeah, we'll.
Debate between the two of us. Tracy, we're perfectly.
Well well hedged.
Yeah, that's right, we're perfect He well. Anyway, so we had that conversation with rich Hill last week and he mentioned he said, oh, there's this NYU professor who was one super gloomy about the urban doom loop real estate apocalypse, and he even he's changed his tone. And then when he said that, I thought two things. It's like, hey, I know that guy. Yeah, he's even been to some odd logeed trivia nights. And b I didn't realize he had changed his tone. I didn't even know if that's true. Got stateated on air. I hope it's true, because I want things to be factual on the podcast. So it's like if we should actually we should talk to we should talk to that NYU professor.
I like that our fact checks have become sources of content. Now it's just another episode to see if what someone already said is actually correct.
We could have just done a fact check, or we just put it out there and then if it's wrong then we get it, we get it debunked on a future episode.
All right, let's find it out if it's wrong or not.
Well, I'm very excited. We're going to be speaking with Arbid Gupta. He's an associate professor of Finance at NYU Stern and back in twenty twenty two, he was the co author of a paper work from Home and the Office, Real Estate Apocalypse. Of course, there's all this fear of doom loops. People don't go into the office. Then the local businesses that depended on that foot traffic, like Delhi's and salad bars and restaurants go out of business, and then people don't like being in the city even more, and then they move out to the middle of nowhere like you. And then suddenly the whole thing falls apart, Arbet, thank you so much for coming in, Thanks so much for having me. Let's just start with like the basic fact check question, are you as gloomy or do you have the same fears of an office real estate apocalypse as you did in late twenty twenty two.
Great, So, taking a step back, my co author Teams and I, so that includes stan One Neiberg who was at Columbia, as well as RNDA Methol who was at unc first began with a research paper that was looking at the urban flight and residential real estate. So we were comparing the price of real estate in the center of cities against the price of residential real estate in the suburbs. And we found is that over the course of the pandemic, the price of suburban real estate, so places like where Tracy lives have gone up from.
Maga's really like ex surban but yes, keep going.
No, it's really those far far exurban places, places that weren't even really considered commutable, that actually went up in value the most relative to real estate in the center of the city, places like where Joe lives, right, And so we find that that spread is corresponding to a rent gradient or a price gradient really narrowed, and in fact, that narrowing has continued even through twenty twenty three. So urban real estate continues to lose value relative to suburban and far exurban residential real estate. We find that that pattern is really driven by remote work. So it's people that are willing to move further and further away from the city and are less willing to pay for urban amenities and proximity to urban work locations. That's kind of driving this spatial arbitrage across markets.
How do you square that spatial arbitrage idea or that price discrepancy urban versus non urban prices with the sense that I mean, it certainly feels reading the headlines, and again, Joe and I might be slightly biased here because we work in financial journalism adjacent to the financial industry, but it feels like there is a drive to get people back into the office.
Absolutely, and I think this really varies across cities and across industries. Right, so when you look at the entire country, there's really no good indication that people are more likely to come into the office. Whether you're looking at surveys that kind of ask people, how often are you coming to the office or not, or surveys that ask firms what are your policies or not. But one trend that is pretty noticeable is it's a lot of the largest companies that kind of make up the headlines, firms like Goldman Sacks, they're very vocal about their back to office plans. And you see across some industries, particularly industries like finance, they are a little bit more inclined to get workers into the office. So it's really kind of hard to see a nationwide trend, but it is there in certain industries or firms.
So is the doom looping, like, is it spiraling or has anything arrested it?
Right? So we looked at this aspect of urban flight, and so across many cities like New York or San Francisco, you see a population loss of about six to eight percent that happened over the course of the pandemic, and this population loss has sort of stabilized. So San Francisco gained a small amount of population last year. New York continued to lose population, but at a smaller rate than previous years, and that kind of motivated us to look into what are the implications for commercial office buildings and this concept of the of the doom loop. So in our paper that came out a couple of years ago, we estimated that New York City office real estate would be down in value about forty to fifty percent. And this can lead to two possible spillovers, right. So one is the impact on financial institutions and banks in particular that are holding a lot of the debt associated with office buildings. So that's a financial doom loop risk.
Right.
So as the value of these properties declines, loans attached these properties might enter into full and we're seeing default rates now about six to seven percent. That might trigger foreclosures to stress sales that then amplify back and feed into further real estate price to clients. We're seeing the beginnings of this play out, but modification efforts have sort of stemmed this tide for now. The other externality or spillover effect comes onto cities, right, And so that's this urban doom blup idea that you're going to see a cycle driven by remote work leading to office vacancy losses, loss and property value that then hits city budgets. City governments therefore lose money and are forced because of balanced budget requirements to either raised taxes or cut services, and people don't like either of those, and so they might respond by leaving the city in greater numbers, which might then further amplify those losses. And so we're seeing, i think, is sort of the first wave of those events happen with the population loss, the loss and value for commercial real estate. And it's really now kind of in the hands of policymakers to kind of decide how they choose to respond to those treads, right, whether they're going to respond to these losses by trying to kind of raise taxes, cut spending, or trying to improve the quality of life and amenities in urbine areas.
So you're the forty percent estimate. So the idea that long run office valuations are forty percent below their pre pandemic levels per your paper, that was kind of assuming that everything pretty much stays the same. Is that right?
So we are trying to figure out how persistent remote work is going to be, Right, So we're acknowledging the possibility that these firms might be successful in bringing people back into the office, and we're trying to estimate how likely is that going to happen. We ultimately back that number out by looking at publicly traded stock prices. So the idea is we sort of solve acid pricing model that has a key parameter being how likely are firms to be successful in bringing people back to the office. And basically the only way we can kind of match publicly traded read prices so stocks like Brenado, essel Green is by getting a parameter an estimate for how persistent remote work is likely to be. It's going to be pretty high. So we're basically estimating how likely is it that we're going to stay in this remote work equilibrium, and we sort of estimate that it's a pretty high likelihood. So this world sort of seems to be persistent for now.
Yeah, it is striking. So prior to the pandemic, shares of Vernado were about seventy dollars a year. In the middle of twenty twenty three, they hit as low as twelve seventy nine and they've rebounded, but they're only back up to just under thirty dollars, so still about basically cut in half versus pre pandemic levels, and I think sl Green looks pretty similar.
Yeah, and the other major pricing indicator to look at is the CMBX series. Right. So, back in the financial crisis, a lot of short traders were looking at the ABX series, which was tracking credit to fault swaps on the price of non agency mortgage backed securities. So the CMBX index similarly tracks the value of CMBs deals, which are backed by bundles of large numbers of commercial real estate mortgages, and these bundles vary in how much office they have. But what we're seeing is a value loss in the CMBX index, which might vary from between fifteen and twenty five percent for a triple b CNBX references in DEX. So that basically means that market participants expect there to be some value loss in these depths accuritizations backed by commercial real estate.
Since you mentioned the ABX, and now I have all these subprime memories flooding back. But part of the problem there, or part of the reason the losses were a lot higher than a lot of people expected, was because we estimated the correlation wrong. Right, mortgages when they started going bad, it wasn't just isolated incidents. It ended up being across the country. What do you see in terms of correlation or relationship when it comes to vacant office buildings. Do you see like if one office building doesn't have a lot of business inside it or a lot of renters, does that impact the ones around it?
So there probably is this correlation risk within office and maybe other adjacent asset classes like urban retail. And the reason for that is if an office building is vacant, if people aren't going there, well, that just makes it a less attractive destination, even for other people within the same office district. So a good example of this might be DC. So DC actually has a really high remote working rate, in part because a lot of federal government employees have fairly generous remote working policies, and so that means that a lot of different office buildings in the DC market are all experiencing high vacancy at the same time. That does have some spill or effects to other corners of commercial real estate. So if I'm looking at retail in DC or in some markets like San Francisco, even hospitality hotels or impacted as well, but it is confined more to those specific asset classes and doesn't necessarily spill over to all of commercial real estate, which, as we both know, is a very large, heterogenious universe, a lot of different asset tymes.
I remember we used to talk sometimes like on TV to Emerging markets manager and it's like, oh, it's very important to remember not all em is a monolith. And now I feel like all CIRE discussions similar thing. You must get in there that CIRI is not a monolith. It includes many different categories. The key maybe dichotomy or question as you sort of set it out, is do cities respond to population flight by raising taxes which might accelerate population flight, or cutting spending which might do the same thing, or do they find some way of actually reversing that trend and making people not want to move out? Like what are they doing so far?
So I think the important thing to keep in mind is the really long lags built into all of this, Right, So the office leases are really long term in nature, and so even to this point, many firms haven't had to make an active space decision yet because they're still inherited at least from before the pandemic. Then you have the mortgages on these assets that are also really long term in nature, and so you haven't had to hit a refinancing point yet. For these owners. And then finally you have the property tax assessment cycle, which is also really long, so it takes a really long time for cities to necessarily recognize a loss in property value in their tax re seats. Right, So a lot of cities haven't yet really faced this fiscal reckoning yet. It's really more of the long term that they're going to be potentially facing lower property tax re seats coming from lower property tax revenue from these commercial office buildings, coming from lower income taxes from people that have left, as well as lower sales taxes from less spending that's happening in urban districts. So most cities haven't really had to face the impacts of this yet. They've also benefited from one time federal relief funds. But in the future, a lot of cities are projecting future deficits, and part of that just reflects conservative accounting on the part of city governments, so they're sort of accounting for the possible ability that revenues in the future may just kind of come in slower. So it's not yet clear whether these deficits will materialize in the future. But what we can say is when we look back in the past, the conservative forecasts on revenues wound up being exceeded because cities actually wound up getting a lot more money than they expected in property taxes. So a lot of these core assets, like office buildings, we're really providing cities with a lot of additional revenue in the past ten to fifteen years, and so they may not be in a position to get the same amount of revenue from those office buildings, which then force the cities to do a variety of different things to try to make sure that they remain attractive, vibrant places to be. So one big response cities are trying to do is conversions. Right, so if you can take this structurally obsolescent, you know, stranded asset office real estate class and turn it into housing or some other use case. Housing, of course is great because everyone wants more housing in dense urban areas. That is a great way to kind of fill up the city, fill up the subway systems. Those subway systems are also kind of experiencing declines and ridership as well, and so that's something a lot of cities are looking actively at. In addition to just converting additional office space or just changing regulation around housing. More broadly, so we can build more housing in cities.
This reminds me actually, one thing that often comes up in these urban doom loop discussions is the example of New York in the nineteen seventies, nineteen eighties, or even after two thousand and one and nine to eleven, and the idea that well, there there was a sort of discussion about New York is in a long run decline and it's going to be impossible for it to get out, and yet it did in one way or another. How did it manage to achieve that? And what does that say about the current policy trajectory.
So when we coined that term in our paper, we really weren't thinking about this the industrialization shock which hit a lot of rust belt cities, right and so you saw cities like Detroit or Saint Louis Louis about fifty or sixty percent of their population over that time as they kind of lost that center industry which was holding up their entire ecosystem. For cities like New York, it also was a pretty bad shock. So the city lost something like a million manufacturing jobs that were previously located right in the heart of the city. So we had this big surplus of real estate associated with these industrial logistics uses that had to get redeployed towards other things. And ultimately we found here in York that you could take these buildings and convert them to retail housing and support a lot of office buildings. So a lot of white collar work came to New York in the aftermath of that deindustrialization period, so some cities were able to ultimately prove to be more resilient. We also see across cities that meds and eds were a really big factor. So having hospitals and educational institutions were a great way for economies to kind of pivot and create new job centers of growth in order to take over the previous blue collar work that would have been going on in cities. And so some of those cities, again, particularly like New York, were able to kind of redeploy and change their economic environment in response.
We are recording this merch twenty fifth, twenty twenty four. So on March fifth, twenty twenty four, how are you feeling. Let's start with New York specifically, because that's all care about. No, it's not all I care about, just ninety percent. How are you feeling about New York right now.
So I think New York has a lot of great advantages going for it. So it begins with the diversified industrial base, right so, in comparison to a lot of these West Coast cities, in comparison to city like San Francisco right now has something like a thirty seven percent office vacancy rate. At those rates, if you had the fastest office absorption in history, you would still need seven or eight years just to fill the existing vacant office space. If you are filling San Francisco office at the average rate of absorption over the last twenty years, you need something like fifteen or more years to actually fill all of that office space. So there's just a huge vacancy problem in a lot of these West Coast tech center centity cities. In comparison, New York just has a broad diversity of different industrial uses, and you have a lot of firms like big law or financial firms that do seem to be more able to get workers into the office. In addition, you have a lot of great consumption amenities, so people love being in New York for all sorts of different reasons. That's going to mean that New York is in the position to reinvent itself as more of a consumption city rather than a production city. And then finally, there's another great buffer that New York City has, which is, if you're looking at office rents that are let's say seventy dollars or eighty dollars a square foot, you have the space to cut that rent down and get to a point where you're able to find some other tenant willing to come into that space. Now, office owners, for variety reasons we can get into, are reluctant to lower the rent to that point. But there is space to lower the rent and still be able to operate that building financially. In comparison, you have a lot of other cities, for example, some other Roust Belt cities, where there's not necessarily that same level of space to cut the office rent without really eating into the ability to operate that building successfully.
This was going to be exactly my next question. So what is the catalyst for office owners or building owners to finally reduce rents, because presumably that's when you get the sort of healing process, the creative destruction. I guess that allows new types of businesses to come into the city and maybe start redefining some of these urban areas.
I think in many cases it's really going to require a change in ownership of the building, right because why you're building owners reluctant to lower the rents of their existing buildings. Well, I think there are variety of reasons, but some of the reasons I've heard include one, there's this real options problem, so you don't want to lock in a tenant for the long term at a lower rent. You kind of want to wait and find the right tenant. Second, you hear about issues related to debt covenants on their mortgages, so the owners of debt may have restrictions in place that prevent that owner from reducing the rent. And then finally you hear about issues related to strategic vacancy, So owners of buildings may be reluctant to lower rents because that sends a signal to other tenants or signals to appraisals. And there are mortgage holders that may impact their future financing prospects. So one way to kind of deal with these things is really for that building to go through foreclosure or fire sale, change ownership, and that new owner is going to be able to or just a building at a much lower cost basis that cost spaces helps them either a convert the building into an apartment or other use find ways of investing in that building to really try to compete for that trophy a plus real estate space, or just take the building and lower the rent and find a way of remaining profitable at a lower rent point.
So you've mentioned and you've written a fair amount about office Torezi conversions, and we've talked about it on this show a handful of times. Definitely one of these things. It sounds good, it seems expensive, it seems slow. I can never really tell, even if everyone got their ducks in an order, whether it would move the dial enough to meaningfully a ease some of the housing strains or be sort of fill in some of this empty space. What is your work saying right now? Is this happening on any scalers. This just a thing people tweet and write papers about.
So we did write a paper on this and have tweeted about it as well. So we've contributed to the last few components. At least. What we find in our work is again joint with Steinwin Norberg and another quatht Candy Martinez is that there is a prospect for physically converting about ten to fifteen percent of the nation's office stock, and that would produce something like four hundred thousand apartments, where our annual average apartment production is something like two hundred and sixty thousand a year. So it's a reasonally large prospect relative to the size of annual production, but it's still a pretty small overall part of the you know, the entire office ecosystem. Across cities. We do see some cities that are exploring it more aggressively than others. Cleveland, Actor is a city that seems to be engaging in these office to raise the conversions a little bit more.
So, would you say, explore this is what I'm trying to get. Is there like in New York or maybe even Cleveland, like is this actually happening.
Yeah, it seems like these conversions are happening. You know, here in the Financial District, we converted you know, somewhere in the order of tens of thousands of apartment units out of former office building. So that's something that happened, particularly after nine to eleven, and it is happening now. It seems like at an increasing rate across a lot of cities.
So you mentioned timelines earlier and the idea that this dynamic is really operating on a lag and so it might not seem that the doom loop is upon us right now, but a lot of those rents or leases have yet to be renegotiated, and so it might just take longer than a lot of people anticipated. Maybe we could reframe the question as like, when would you expect this to play out, Like what is the approximate timeline that you're sort of envisioning at this stage.
So I think there are two important things to keep in mind with this urban doom loop concept. First is that it's sort of a cycle, not necessarily a prediction of something that will happen, right, So we kind of talked about how aspects of these dynamics have happened in the past, and I think it's an open question whether we're going to see this element of urban downward spiral happen in the future. If it were to happen, I would sort of expect it to really materialize as you see this federal stimulus dry up and the impact of these property losses start to accumulate for cities so as one benchmark, York City had a relatively severe recession in the early nineties. We had a big problem commercial real estate back then, so we had a lot of failures of banks with the SNL crisis, big losses for commercial real estate back then, and it actually took a really long time until the late nineties for New York City to see the losses from those commercial real estate property tax losses materialize, at which point the city had already experienced a growth cycle because of the dot com bubble. So the forecast, I think is in the next few years you're going to potentially see the impact of these property tax losses combined with the drying up of co ed funds, and that's going to be the moment of greatest stress for cities. I think. The other thing to keep in mind is that in parallel with the urban doom loop, you have the suburban boom loop, which is the phenomenon going on in suburban areas. As more people move to these areas, you're seeing more amenities pop up, and these make them more desirable locations, enabling a positive flywheel of economic activity. So remote work in aggregate is probably a good thing for the economy, it just has these concentrated pattern of winners and losers.
The suburbs are getting so good, No, I really believe that. Like I may have mentioned it recently on an episode, but I was like halfway between Austin and San Antonio recently, which is now basically just one giant, contiguous suburb, and like the sheer number of like new different kinds of restaurants that are opening up out there and different concepts and stuff, like, it's so wild, it's so good, Like there's so much good stuff out there. So the New York City has already seeing budget strands.
Right, Yeah, So there was a big back and forth about some cuts to things like libraries, and then I think the Controller has estimated that in the coming years were going to see out budget gaps, you know, something like eight nine percent of the city's budget in future years. So I think it hasn't really yet materialized for the city because revenues I think ultimately came in higher than expected, enabling us to avoid some of those cuts to things like libraries. There's the prospect of future cuts on the horizon as we're forced with the prospect of increasing expenditures down the road. And thinking about what will be the revenue sources to pay for.
It, how good the suburbs are getting to which all I can say is you're dooming, Joe, and I'm booming. But actually this brings me to another thing that I wanted to ask you about. And this comes up again a lot in these conversations, but the idea of perhaps making it easier to build, deregulating or rezoning or whatever you want to call it. And there is an argument that one of the reasons you've seen a lot of people, a lot of businesses move to places in the sun Belt is because it's easier to build there. There's more room, it's cheaper in many ways, or at least it used to be relatively cheap versus places like New York. Could you talk about that sort of regulatory aspect of all of this. Are there levers that the city could pull to make New York an easier city in which to construct new buildings or repurpose old buildings.
Absolutely so. The lowest hanging fruit, I think is the far cap here in the city. So we have a limit for multi family buildings, they can only have an far of twelve, so that basically means for every So it's the ratio of all the usable space in a building, divided by the plot size. So if I have a one square foot I can create twelve more square feet of livable space on top of that, but no more whereas in fact, that ratio is higher for office buildings. And this is actually a big barrier for conversions, because if I take a large office building and convert that into apartments, I may only be able to use a portion of that building for residential use, and I have to leave the other floor is empty. This is also why those giants super tall buildings kind of south of Central Park are so skinny. They're sort of trying to meet these regulatory requirements on density. So that thing is the easiest fix, and policymakers are looking at that one right now. More broadly, we have a lot of restrictions on the ability to build in the city, and even here in New York, we have some neighborhoods that are still zoned for essentially single family homes. You're not allowed to build a multi family building, or if you are, they're really strong density requirements. So I think there are a host of regulatory shifts that cities can do to make it easier to build, which will then narrow that cost of living advantage between urban cities and the Sun Belt.
I hadn't realized that about the sort of regulatory rationale for the skinny buildings.
So the.
Smaller the plot on the ground, the more you're allowed to go up.
It's more that you're taking a certain plot of land, and if you want to sort of have a better view, you kind of have to make the building a little bit skinnier, and sometimes you have to leave some of those floors in the middle unoccupied in order to really take advantage of the high benefits.
On San Francisco, as you mentioned, like under a reasonable normal assumption about new office leasing, I think you said thirty seven years would take to fill that hole or something like that.
I think at an average rate, I think it's more than fifteen.
What happens to a city with that big of a deficit? Like, is this like a series? Like you know, there's a lot of excitement because basically every smart AI person in the world pretty much lives in San Francisco, is my understanding? Like in your view, is this a sort of deep structure impediment to the viability of the city and the city's budget going forward.
I think it's certainly a big problem. So the cities own estimates I think suggest that they've lost something like half a billion dollars due to remote work, and in the future they're looking at a lot of property tax reassessments. So basically a lot of people that own office buildings are appealing their property taxes, are arguing that their building is worth a lot less now that you have all these vacancies, and so it's definitely a source of stress I think for the city's budget. I think this is really amplified by some San Francisco, California specific issues. Right, so you have Proposition thirteen, which means that you're not able to raise taxes as much on residential real estate, so that puts more of the burden on other sources of taxation. They also have these things like business gross receips and things like that, which are additional taxes levied on businesses in the area. So firms ate that and don't like having to pay these additional costs. And then in addition, I think you have the kind of spatial development of the city. So going back to the seventies and eighties, there was basically this deal whereby the city agreed to adap so of most of the residential neighborhoods in exchange for a very concentrated building of commercial riding in the downtown area. And this allowed the residents of San Francisco to kind of live in these small, nice, quaint little homes, preserving their neighborhood character.
They're nice.
Well, so these are the ones with the like Victorian woodwork and.
Stuff right right exactly, which people hate it at the time but grew to sort of love and see as kind of historic parts of their character.
I was.
I visited a friend a few years ago who lives in like not one of the nice like Victorian homes, but just like a sort of like little nice neighborhood with a wedget single family housing. And he's like a big MBI guy, and it's like, Oh, I love your neighborhood. It's so nice. And he's like, Joe, you can't you can't say that I hate it. You said the wrong thing, but anyway, keep going.
Absolutely, so, the trade off was you're going to have this down zoning of the rest of the city in exchange with this very concentrated development happening in downtown, and the problem is that that left the city really unprepared when the pandemic hit because you had all these people commuting from really long distances to try to get to that downtown core because they really couldn't find or afford any housing nearby. And that's one of the reasons why people were so excited by remote work, because it allowed them to take advantage of the ability to move to Austin or wherever else and get a lower cost of living in order to continue working in the same place they were before. So you have just massive mismatch between the jobs and the people, and so that has to be corrected one way or the other. Either you move the jobs now to where the people are, to move the jobs over to Austin or wherever they are now, or you find ways of bringing more people back into San Francisco and that'll actually fill back up the transit system to fill back up those downtown office.
Course, so people don't just want to live in cities because there's work there, although clearly that's one aspect of it. You know, at least in recent decades, going to a place like New York, that's where all the jobs are and where you need to be in order to make a certain type of living. But there are people who will move to a city just because they want to be part of a city. They want that vibrant experience, they want to be close to other human beings, they want to have options for restaurants and going out and experience everything that a city like New York has to offer. Is there a world where maybe cities get divorced from or slightly more separated from the economic opportunities.
I think so that will be essentially a world in which cities are really defined by those consumption opportunities, right by their dating markets rather than their labor markets. Right, and people, we're doomed.
Sorry, I haven't heard anything.
Good about them. And people, you know, you know, what we see in the data is a lot of people are working remotely, even in Manhattan. Right. So clearly a lot of people, when given the choice, will still choose to live in these large cities. I think the challenge is establishing the quality of life and cost of housing to enable people to do that. So, for example, the Citizens Budget Commission has been serving people over time, and they find that in New York far few people rate their quality of life as being high compared to what they're rating it before the pandemic, So they're important concerns about the quality of life people are experiencing in urban areas now. They also found that people actually liked their neighborhood more than the city, kind of the same way that people rate their personal financial situation a lot better than the national one. So there's maybe some issue of negative urban vibes that are kind of impacting people's decision making here. But I think definitely something around trying to make sure that cities can remain these vibrant, exciting places is really a great way to make sure that they continue to live there even when they have options and can choose to live elsewhere.
It's such an interesting phenomenon about like everyone's own situation is not as bad as they perceive everyone else's. Like I think you see the same thing, and like people talk about their representatives too, like it's like, oh, my center, my rep is all right, but it's not like, but Congress is terrible.
It's like the Dunning Krueger effects, right, Like everyone just assumes they're doing better than everyone else.
I like my neighborhood, but yeah, I guess maybe everyone likes their neighborhood too, but you know, on this point, so it's like there is this dimension that is not just about numbers, and it sort of gets to the quality of life effect. And you know, recently, for example, there is the headline about Governor hokel deploying the National Guard to the subway and obviously there's a lot of anxiety about safety on the subways these days. And like, you know, in my neighborhood, which I like, there are certainly many public vices that one sees as I walk here, take my kids to the park, or take them to school, et cetera. And some of these things aren't really just money things that can be solved with spending or taxes. There's a certain amount of political will or political consensus about the degree to which, you know, we crack down on you know, illegal weed shops and stuff like that. How much is the future of some of these cities going to be determined by the ability to get political consensus for some things that aren't just sort of dollars and cents questions.
I think that's really important because I think the pandemic was this whole desocialization period in which we were just not near each other as much, and that sort of broke down a lot of social norms, right, and you think about how new people are entering the city, they're sort of seeing people behave as they currently are and just assuming Okay, well, these are the social norms in the city. So it's really important, I think, to maintain sort of pro social behavior. So just to take one example that you raised, the subways, So I think overall crime in the subway is down slightly compared to before the pandemic, But if you look at felony assaults, so people actually experiencing and being victims of crime in subways, that's actually up pretty substantially from what it was before the pandemic. And again back in that CBC survey, they found that people basically rate the safety of the subway during the daytime the same as they rated the safety of the subway at nighttime before the pandemic. So there's been a huge shift in the perception of crime and safety on subways, and I think part of that is driven by remote work, because you have fewer people taking the subway, so that's fewer eyes on the street, less sociable, you know, kind of enforcement coming from other people, and that sort of drives more anti social behavior in ways that can compound on themselves unless it's addressed by you know, for example, putting more police officers in the subway or sort of changing the social norms in other ways.
So you're obviously at NYU. I'm curious if you're able to talk about it. Do city officials ever ask you for advice or ask for additional information on your research.
We've i think talked to a number of city officials from across the country, particularly on the office problem, you know, thinking about conversions and things like that. I would say that this whole research has definitely resonated far more than any research I've done previously or probably will do in the future. But I'm hopeful that it's a sort of wake up call for city and local governments to think about what do they need to do after the pandemic in order to really continue to make sure that their cities are really exciting envirobrant places to be Out.
Of curiosity, just because you mentioned more what has been the general gist of your work prior.
To this, So I do a lot of work related to financial crisis, So thinking about all those subprime mortgages and defaults and things like that. I also do research now thinking about housing regulations and costs right, and how we can use AI to better extract information from these zoning codes and better figure out ways of making housing cheaper real quickly.
On that A, I think, I think you did a recent research paper using AI to do something about regulations and codes. What did you what's your experience we got to get in an AI question on that.
So I think it's a great use case actually because we have, you know, across the country, every municipality has a very long, complicated document hundreds of pages long that outlines all of their regulations, you know, these density requirements, a lot of size restrictions, so on and so forth, and people really haven't dug through and read all of these documents to really categorize and figure out what is inside them. And so that turns out to be a great application where we can basically get chat GPT to do it and thereby create a data set of housing regulations across the country. So I think that's something we can really ramp up kind of across municipal government regulations to better understand the rules out there.
We should charge servers rent. That's the solution, like charge the bots rent and property taxes and this will solve the issue.
I mean, data center cre is like the hottest area in the world.
Yeah, I know, so higher taxes there we go.
That what office to data center conversions I think is the move rather than office to REZI, office office to AI conversions. I like that idea. Arpi Gupta, Associate Professor of Finance at NYU, thank you so much for coming on. Great to find the chat.
Thanks so much for having me.
Tracy. So, I guess my takeaway is maybe it's still coming like I don't know, maybe like the coast is not totally clear yet.
Well, I take the point that in all of commercial real estate, it feels like it is operating on this incredibly lengthy lag time and it takes a long time for Lisa's to get renegotiated. A lot of property owners don't want to have lower rents for the reason that are Pit discussed. But the other thing I would say is, like, coming away from that conversation, I kind of feel like there's two possible pathways, like two extreme pathways. One is the doom loop scenario that ar Pit described and the other one is the sort of like redevelopment of the urban environment where offices do get turned into new residential units, and maybe as rents are lower, there are new types of businesses that come in. It's that consumption economy rather than this is the place that you go to work idea. If everything went perfectly, if policymakers like pursued that path, that could be a relatively amazing outcome. I do not always have one hundred percent confidence that policymakers are going to be sort of visionaries when it comes to redefining huge urban cities, but it's kind of a nice lot totally.
There are three things there that struck me.
So.
First of all, disinclination to lower rents. It is like one of these great examples of accounting affecting the real world. Right, So it's like something that exists on a spreadsheet somewhere creates a reason to not find that market clearing price for rent. And maybe the moment will come when the new businesses that like the cheaper rent can come in, And I think that's something interesting to watch. Two. I liked the way Arpet put it and respond to your question about you know people maybe people come to the cities for the dating markets instead of the labor markets, and that's sort of grim. But I think, like it's interesting if you think, like about things like Tinder or door dash or some of these apps, and like how much better they probably are in the cities rather than out on the sticks you to wipe and see the same three restaurants are the same, you know, six people, same three people, and that on that these technologies that we think of as potentially diffusing could actually encourage physical concentration. And then third, you know, one thing I think about, and we talked recently about the megacity that the UAE might build in northern Egypt, is like this idea of like cities divorced from production generally, and I sort of think that's like the thesis of some of these megacities in the Middle East is like the main thing they're selling is not some industry that exists in the city. It's the main thing is they're selling a nice quality of life, a quality of life and lower taxes and low taxes and low crime, et cetera. And then like the idea that the production has to happen there is like sort of not particularly necessary.
That's a really good way of putting it. The one other thing I'd say is so obviously the big cities could develop themselves into like consumerist or human connection capitals of the world, I guess, but you could also see smaller cities, smaller towns, suburban areas start to build up their own like nightlife and restaurant options, sort of what you were talking about earlier, Like, and we have seen some places outside of New York. I think there was a really good Bloomberg article on a small town in Connecticut. Am I I'm talking my own book now, but there was a nice story about, you know, relatively small town in Connecticut that had seen a lot of people move away from New York. They don't want to do the commute into the city anymore, and so their downtown area is booming. Now that's relative for a smaller town, but they have new restaurants opening up, they have new shops, they have offices being built there. So you could see these sort of like smaller versions I guess of cities kind of develop across America, where it is to your point about the megacities in the UAE and the Middle East, where it is much more about that quality of life.
Tracy, I have a favor to ask. Can you go to town planning meetings and be ultra nimby so that people can't move out of the city? And you know, like, this is how we could exploit our natural hedge together, which is you fight to preserve your quality of life out in the middle of nowhere so that people have to stay in New York and keep rents and foot traffic up here.
I think that would be a very dangerous thing for me to do personally, all right, I respect, but we can talk about it.
Jall right, it sounds good.
Shall we leave it there?
Let's leave it there, all right.
This has been another episode of the Oudlots podcast. I'm Tracy Alloway. You can follow me at Tracy Alloway.
And I'm Joe Wisenthal. You can follow me at the Stalwart. Follow our guest Arpadgupta. He's at Arpitrage. Follow our producers Carmen Rodriguez at Carmen armand dash El Bennett at Dashbot, Kelbrooks at Kelbrooks. Thank you to our producer Moses On. From our Oddlots content, go to bloomberg dot com slash odd Lots, where we have transcripts, a blog, and a newsletter, and you can chat about all of these things twenty four to seven in the discord, Discord dot gg, slash od lots.
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