America's Cities are Doomed

dCities in the US are increasingly empty. Despite the hollow, pathetic calls that we return to offices that pack us in like cattle - spaces which create no further productivity besides gossiping with coworkers - cell phone data (above) clearly shows most downtowns are significantly behind the curve when it comes to daily populations compared to pre-Covid.

And why shouldn’t they? Many companies have gone full work-from-home and suffered zero consequences. Corporate profits are at an all time high. At this point, it’s become increasingly clear that a?lot of inflation?was just profit-taking by increasing prices on consumer goods by corporations who realized consumers are not as price-sensitive as they’d thought. (Plus, those consumers have little choice in what they purchase.) There has been a massive shift of wealth from consumers’ pockets to large companies and their owners, further exacerbating the already-insane wealth gap in this country.

But back to cities. The official vacancy rate of office buildings sits around 50 percent. Trillions of dollars of long-term leases come due in the next two years and, because many are interest-only, they will be forced to refinance at vastly higher interest rates while the cash flow from tenants is down significantly. Since property companies do not particularly suffer any consequences from abandoning a mortgage (unlike consumers), many will simply default on the loans to protect their capital for reinvestment in other (more profitable) buildings.

We’re already seeing this in San Francisco, as several times a week, some owner defaults on their building and more and more stores are leaving. Already, the owners of the largest mall and the largest hotel in the city walked away and gave them back to banks. Meanwhile, as downtown foot traffic has lagged and crime has skyrocketed, retailers are closing left and right, leaving San Francisco looking like something out of Mad Max. I predict it will get much, much worse fairly quickly.

The issue is: San Francisco is a taste of what is to come for the rest of American cities. It’s important to remember that everything tends to come in trends. Cities have been en vogue for a while now, but that has not always been the case. Today, after getting a taste of freedom, workers want to have the flexibility to stay at home so they can watch their kids, get some errands done, and more without being tethered to a desk in a noisy, deeply unpleasant environment. If companies really wanted to get people back in the office, let them announce everyone gets a private office and watch Americans flock back. But of course, due to their colossal obsession with reducing human capital costs at the sacrifice of anything else, the most they can offer is a?$10 a day donation?to a charity of your choice.

Only a company as shitty as Salesforce could come up with something so stupid and pointless to try to lure workers back in. If, as you promise, productivity would soar from us all waking up earlier and trekking to the office, how about paying us more to come in? (And a lot more than $10 a day.)

The hollowing out of commercial real estate has devastating consequences. As these buildings refinance or are sold at low prices over the next few years, they will be reassessed in terms of property taxes. The issue is almost every city in the US depends upon these commercial property taxes to operate. The coming destruction of value in office space will decimate city budgets. While this was easy to see coming, the?WSJ finally admitted?that investors are abandoning municipal bonds for cities as they see the writing on the wall.

Downtowns have been a mother lode for American cities over the years, providing billions of dollars in tax revenue along with their distinctive skylines. In turn, investors who bet on downtown office towers, or on the trains and buses delivering workers to them, could generally trust they held a winning hand.

Now, with white-collar workers spending more time in their home offices, a phenomenon that shows few signs of ending,?investments linked to downtowns?are trading at falling prices in volatile markets.

“You could see this as a slow-motion change or as the beginning of a slow-moving train wreck,” said Richard Ciccarone, president emeritus of Merritt Research Services, a municipal credit-analysis firm. “I hope it’s not a train wreck, but it could be.”

Oh, it’s going to be a train wreck and then some. Let’e examine what’s going to happen.

By now you’ve probably heard of the doom loop, which is what San Francisco is experiencing. A city’s tax base goes down, they have to reduce services, quality of life is degraded, and people leave…which further reduces the tax base.

It’s a death spiral that we’re seeing play out in San Francisco. It’s coming to a city near you, and soon.

There’s no avoiding that cities’ tax revenue is going to be significantly lower, which means there is no avoiding cuts in services. The best cities will find a way to cut services without increasing crime, homelessness, and drug use, while others will not be as capable.

The writing is on the wall, though. As the WSJ demonstrates, investors are already betting against city budgets or a revitalization of downtowns. More likely we’re headed to a hollowing out, with people abandoning formerly-bustling city streets for the countryside. Corporate America would be wise to shift their stance, as many companies have, to permanent WFH before workers are forced into offices surrounded by dilapidation.

All this is to say, other than some downtowns which have recovered well, I am very bearish on the revitalization of urban America. Nor do I see a solution beyond what my friend believes will happen, which is new taxes passed to force companies to bring workers into office buildings. I do not think that would go over well with voters, to put it mildly.

The collapse of office real estate is going to have devastating effects on American cities and we’re just starting to see them. Soon, the plight of San Francisco will arrive in your downtown, and there’s very little we can do about it.