Here's What's Wrong With The Economy - Business Insider

">Yepoka Yeebo / Business Insider

AS YOU pull out of Washington's Union Station on a north-bound train, you glide through a thicket of construction cranes erecting new offices and residential buildings.

The view couldn't be more different some 45 minutes later, as one passes block after block of decaying rowhouses in Baltimore's inner-city neighbourhoods. Indeed, for much of the journey to New York, the main view on offer is one of industrial decline?like the sad slogan "Trenton makes, the world takes", dating from 1935, visible on a bridge over the Delaware River in Trenton, New Jersey?that is the residue of an old American economy.

And then one approaches New York City, where cranes again dominate the skyline, building, among other things, a soaring skyscraper that will be home to just tens of billionaires.

In an interesting piece at the New York Times, Adam Davidson explores this geography between Washington and New York, chronicling some of the stories of those left behind by today's economy. His framing of the changing geography of the northeastern corridor is a little problematic, however. He writes:

For most of the 180 or so years of the train line?s existence, the endpoints of this journey ? New York and D.C. ? were subordinate to the roaring engines of productivity in between. The real value in America was created in Newark?s machine shops and tanneries, Trenton?s rubber and metal plants, Chester?s shipyard, Baltimore?s steel mills...

This model was flipped inside out as Wall Street and D.C. became central drivers, not secondary supports, of the nation?s economy. Now, on its route between them, the train passes directly through or near 8 of the 10 richest counties in the United States, but all of this wealth is concentrated near the endpoints of the journey...

[I]n the case of those areas surrounding the capital, wealth has gravitated to the exact spot where government regulation is created. Why? Because many businesses discovered that renegotiating the terms between government and the private sector can be extraordinarily lucrative. A few remarkable books by professors at N.Y.U.?s Stern School of Business argue that a primary source of profit for Wall Street over the past 15 to 20 years could be what I call the Acela Strategy: making money by exploiting regulation rather than by creating more effective ways to finance the rest of the economy.

It is unquestionably true that some of the recent economic strength of Washington and New York can be traced to unhealthy rent-seeking. The rise of the defence-contractor economy of Northern Virginia is troubling, as is the unholy relationship between Wall Street and Washington regulators. Yet to pin the broad changes in the geography of the northeastern corridor (and similar shifts across the nation and rich world as a whole) on an explosion in rent-seeking is a mistake. The real story is more interesting: the economic role of the city itself has changed.

The great cities of the northeastern corridor boomed to their massive size during the industrial revolution. Between 1790 and 1860 the population of New York City (which, contrary to the implication of the Times piece, has been the behemoth of the Northeast for two centuries) rose by at least 50% per decade. New York, and the other industrial cities of the corridor, were built on a very straightforward economics. At the time, shipping by sea was cheap while shipping (or indeed traveling) over land was prohibitively expensive. Port cities therefore became factory cities. Raw materials were shipped into ports like New York, Philadelphia, and Baltimore, transformed by the local industry, and then shipped back out to destination markets. These industries provided direct employment for hundreds of thousands of workers, and fueled the growth of other sectors as well, from retail to finance and insurance.

But over the course of the 20th century, the pattern of transport costs that held this world together changed dramatically. Highways and the automobile allowed richer residents to move out of central jurisdictions to nearby suburbs. That robbed central places of an important source of tax revenue and led to declining public services, which encouraged still more suburbanisation. Highways, and new shipping technologies, also allowed manufacturers to escape the high real-estate and labour costs of port cities. Industry began to migrate to suburbs, then to the American South, and then abroad. For some time these trends seemed to spell doom for the Northeastern cities. But in fact, they created a different sort of economic gravity, which has in turn led to renewed growth across the region.

Falling transport and communication costs raised the return to ideas by expanding the global market over which good ones could be exploited. In doing so, they made clusters conducive to idea generation and new business formation more lucrative. Just as important, shifting space-hungry manufacturing elsewere enabled a reshaping of cities around human rather than bulky physical capital. A piece in a recent special report describes this evolution:

You might imagine that the dramatic fall in the cost of communications and computing would have pushed firms in the information-technology industry (among others) farther apart. Natural resources do not matter to them; all they need is a good internet connection. The ease of online communication should reduce the need for their people to be close together in order to work, to deal with customers and suppliers or to swap ideas. Young companies really can pick their spot. That would seem to count against Silicon Valley, where premises are costly, and against London and New York, which are not only expensive but also lack California?s high-tech history. Berlin is cheaper, but there are plenty of places all over Europe where costs are lower.

Yet although you can find tech companies of all shapes and sizes almost anywhere, the smaller ones especially have a fondness for huddling together. Jed Kolko, Trulia?s chief economist, puts this down mainly to the continuing attraction of a deep pool of skilled labour. ?The less an industry needs to be near natural resources, its suppliers or its customers,? he says, ?the more it?s likely to cluster where its workers want to live.?

Research in economic geography turns up a strong relationship between city size and productivity in cities with high levels of human capital. The northeast is changing from city-as-factory to city-as-executive-suite and city-as-research-lab. As Matt Yglesias notes here, the resulting prosperity is hardly confined to Washington and New York, most of the corridor's large metropolitan areas are rich relative to the rest of the country. When passing through Baltimore and Philadelphia, one can look up from rows of vacant homes to see gleaming towers and new condo developments. The big story in these places is the change in the return to skills. It's one that shows up in national income data as well as along northeastern train routes.

The difficulty this creates for the northeastern corridor is that this kind of clustering creates a demand for a different set of workers (and often a different infrastructure) than was necessary a century ago. Adjustment to this shift in labour demand has been taxing for major cities, but more importantly it has placed a great deal of stress on middle-income workers, whose talents are no longer needed. Cities continue to serve as engines of wealth-creation, but they are less effective as engines of broad economic mobility than they once were.

It's interesting to think about the history of the ports of New York in this context. (See Marc Levinson's book The Box for more on the subject.) Once upon a time, New York's port was in New York. Docks stretched along the Manhattan and Brooklyn waterfronts, providing work for thousands of longshoremen who earned a good living loading and unloading breakbulk cargo more-or-less by hand. Over the second half of the last century, however, the rise of container shipping led to an explosion in trade and huge declines in the cost of many goods. Across New York's harbor in Newark, New Jersey, one now sees massive container-port operations, shipping vastly more cargo than New York City previously managed with far fewer workers. Back in Manhattan, the old dock areas are now home to gleaming towers full of skilled professionals. Technological change transformed the economy of the New York area and made both it and the country vastly richer. But that change also helped hollow out the middle of the labour force, in New York itself and across the country. The middle-class dock workers who once occupied charming townhomes in neighbourhoods in Brooklyn or Baltimore have too often become poor residents of those cities or have left altogether.

I think there is room to blame rent-seeking in cities for the fate of some middle-income workers. The dynamic that troubles me, however, is that of the NIMBY, who restricts access to the best neighbourhoods or?by fighting development and therefore raising housing costs?to the most productive cities, thereby discouraging marginal workers from locating in such places and taking advantage of the opportunities that are available. But the story of the recent remaking of the northeast corridor is just a continuation of the long interaction between industry, technology, and geography that has characterised rich economies since the earliest days of the industrial revolution. It's a broadly positive thing that ought to be accommodated, rather than evidence of the parasitic growth of Washington and New York.

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Source: http://www.businessinsider.com/heres-whats-wrong-with-the-economy-2012-11

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