COVID and Urbanization. They'll Be Back.

The impact of COVID-19 on Urban Real Estate: review of the historical, economic and scientific evidence and a post-pandemic strategy for investing in urban real estate

Note to subscribers: I wrote this white paper for Safanad to address the question on everyone’s mind, whether people will ever move back to the abandoned apartments, hotels and offices in the cities once COVID is safely behind us. It’s a really complicated topic and I‘m eager to hear your views on this question. I tried loading the paper directly into a substack post but it is so long (22 pages including references) that subscribers using gmail would receive a truncated version. Out of respect for your inbox I decided not to break it into four separate emails. So, here’s how we’ll do it. This post contains a brief summary of the topics covered in the paper and contains a link (in the next paragraph) to a downloadable PDF file of the whole paper including its references. I am then going to post the paper in sections on the site but not send out emails for each piece so that people who prefer to read it there can do so. (I will have them up later tonight.) Hope this works for you as I welcome your questions and comments on the work. As always, feel free to share this with anyone who you would like to have join our discussion. And I welcome them as subscribers—the posts are always free.

You can download a PDF file of the full paper, including all of the references, by clicking here.

SUMMARY of the Full Paper 

I wrote this paper in March to address two questions: 1) will people ever return to the cities after COVID is safely behind us; 2) how should real estate investors approach post-COVID market opportunities. My answers are: 1) they’ll be back; and 2) there will be extraordinary opportunities for patient investors to acquire top-quality properties at discount prices.

This is the final graphic in the full paper outlining post-COVID investment strategy. Download the full paper to see the logic behind the chart

The paper is organized in four sections. First, I review the damage that the COVID-19 pandemic has done to cities, which have been hard hit by the crisis. Second, I review the extensive historical record of pandemics and cities. Third, I review the economics literature on agglomeration and urbanization. Fourth, I review the scientific evidence on scaling laws in complex systems. Fifth, I outline an approach to thinking about the economy that is especially useful in times of crisis and apply it to the current situation.

Without a doubt, Cities bore the brunt of the COVID-19 pandemic with more cases and more deaths than outlying areas. Frightened city dwellers—those who could afford to do so--abandoned the city and moved their families to safer, less crowded suburban and rural locations. A careful review of the historical record and of two separate bodies of academic research show they are wrong. Throughout history, the productivity advantages of living and working in cities have made them magnets for young, energetic, creative people. A review of historical pandemics strongly suggests they will return stronger than ever, as they have after every pandemic in history, once the danger has subsided.

For the reasons why cities have shown such resilience, I review two different bodies of research. First, a half century of economic research shows that cities exhibit economies of scale, known as agglomeration economies, that make people in cities more productive than they are in less densely populated areas.

Second, recent research in complex adaptive systems by theoretical physicists at the Santa Fe Institute shows why cities exhibit economies of scale. Like networked organisms in physical science, cities exhibit superlinear scaling properties. That means doubling the size of a city more than doubles the major measurable characteristics of a city, including income, wealth, innovation, creative activity, the birth and death of businesses, crime, garbage, and the spread of diseases. According to Santa Fe Institute scholars Geoffrey West and Luis Bettencourt, “On average, as city size increases, socio-economic quantities such as wages, GDP, number of patents produced, and number of educational and research institutions all increase by approximately 15% more than the expected linear growth...That 15% productivity advantage is true for all cities, in all countries, in all time periods where there is adequate data”.

That superlinear scaling law is the reason why cities were initially hit harder than the countryside by COVID-19; it is also why cities will come back faster than the countryside once the disease has been tamed.

The resurgence of cities will surprise many people, setting up a profitable investment thesis for acquiring commercial urban real estate. That investment thesis can only be understood in an economic framework capable of anticipating and modeling the periods of sudden, violent change we call financial crises. In the full paper, I describe the economic framework I have developed that allows for phase transitions between general equilibrium and an alternative state characterized by non-price credit rationing. Based upon our experience during the sub-prime debt crisis, I use that model to develop a post-pandemic investment strategy for commercial real estate and give you some idea of the timing, duration, and returns we might see during the recovery period.

Dr. John