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SPECIAL ISSUE

THE FEDERAL RESERVE BANK
OF CHICAGO

DECEMBER 2001
NUMBER 172a

Chicago Fed Letter
Are central cities coming
back? The case of Chicago
by Margrethe Krontoft, Dan McMillen,
and William A. Testa

On September 28, 2001, the Federal
Reserve Bank of Chicago and the University of Illinois at Chicago hosted a
conference titled “Are Central Cities
Coming Back? The Case of Chicago.”
The one-day symposium brought together researchers and real estate business leaders to discuss trends in central
city growth. Recently released 2000
census data indicate that population
decline in most large central cities of
the Northeast and Midwest has slowed
and in some cases reversed. This marks
a significant change from the trend
in the 1970s and 1980s. This Chicago
Fed Letter summarizes the presentations at the conference.
Academics’ Chicago
Curt Hunter, director of economic
research at the Federal Reserve Bank
of Chicago, noted in his introductory
remarks that the events of September
11 added a dimension to the question
of central city vitality that we had not
anticipated when planning this meeting—i.e., whether cities and their high
densities would continue to be as desirable (for security reasons) as they
once were. For the long term, Hunter
advanced the following optimistic view:
“We should always hesitate to write
a great city’s epitaph. Throughout
history, we find them experiencing
shocks and even devastation, yet most
often cities find a way to survive, to
reinvent themselves, and to rebuild.”
He said he expects lower Manhattan
to rebuild and surpass its former glories, in much the same way that Atlanta
recovered from the American Civil
War, San Francisco from its earthquake,

and Chicago from its great fire. More
recently, the Chicago area and the
greater Midwest region have had to
rebuild from the economic upheaval
during the 1970s and early 1980s, when
capital investment and employment
flowed heavily to other parts of the
country and the world. At the same
time, both population and jobs were
leaving the city for the suburbs. While
these were tough times for the city of
Chicago, Hunter said, the seeds of the
city’s rebirth lie in the developments
at the Chicago Board of Trade (CBOT)
and the other exchanges in the early
1970s. These financial exchanges have
made Chicago the risk-management
center of the financial industry worldwide. More recently, Chicago has been
building strengths in other business
services, such as meeting/travel, management consulting, accounting, and
legal services.

the 1990s, especially in terms of population growth and new housing units.
The city of Chicago also appears to
have improved its job and population
performance compared with its own
outlying suburban area in the 1990s.
Testa concluded that Chicago’s improvements are not due solely to the
robust growth experienced by the
broader Midwest region.
On the issue of underlying restructuring, Dan McMillen from the University
of Illinois at Chicago investigated the
extent to which housing prices increase
with greater proximity to Chicago’s
central business district. During the
1980s, housing appreciation displayed
little tendency for upward bias in locations closer to the city center. However, by the end of the 1990s, proximity
to the central city had become very
important to housing prices, which
declined by 7.5% for each mile away
from the Central Business District
(CBD). This trend no doubt reflects
the ongoing process of gentrification
affecting some formerly low-income
Chicago neighborhoods.

William Testa of the Federal Reserve
Bank of Chicago presented an overall assessment of central Chicago’s
performance since 1970. Has Chicago
come back? The answer is an unqualified “yes,” as evidenced by population
John McDonald from the University
growth, new housing construction
of Illinois at Chicago outlined a
activity, location of jobs, work force
status of city residents,
and mean household
1. Annual average growth in population
income (see figure 1).
A more interesting
question is whether
any underlying struc70s
tural improvements
have taken place. Testa
compared Chicago
80s
with eight other large
central cities in the reChicago
gion. While large cen90s
Midwest
tral city performance
has improved on average across the region,
-2.00
-1.50
-1.00
-0.50
0.00
0.50
Chicago’s performance
Source: U.S. Department of Commerce, Bureau of the Census,
1970, 1980, 1990, and 2000.
was more robust during

supply and demand model for real
estate, using population, household
employment, real estate development,
and occupancy and vacancy rates to
estimate demand. His research identifies an underlying and continuing
trend towards suburbanization, even
while the city has rebounded. In the
suburbs, commercial growth appears
to continue to be clustered along the
highways, while the new residential
growth tends to be filling in between
the highways. Meanwhile, the rising
tide of metropolitan area growth has
lifted all boats, including the city center. McDonald also noted that population growth in the city of Chicago
was not uniform among neighborhoods. Ethnic neighborhoods have
experienced an influx of population,
consistent with national trends (nationwide immigration levels have soared
to levels exceeding the early decades
of the twentieth century). Population
growth was also strongest on the north
side, and on those south side areas
closest to the CBD—evidence that is
again consistent with observations of
gentrification—high-income and mostly childless households began to resettle the urban core to a significant
extent in the 1990s. McDonald hypothesized that traffic congestion may be
a factor here. Commuting from afar
to downtown Chicago has become overly costly in terms of time and aggravation, inducing many households to opt
for a center city residential location.
Jan Brueckner of the University of
Illinois at Urbana-Champaign offered
a competing hypothesis as to why gentrification was taking place. He argued
that high-income households have
come to value the amenities that central city Chicago offers and have therefore outbid lower-income households
for central city locations. In addition
to recent improvements in Chicago’s
recreation amenities and city services,
reported crime has diminished markedly in Chicago (and across the nation). Brueckner concluded by posing
the question of whether a city policy
of fostering amenity growth could help
extend or at least solidify the gains in
the central city.

Edwin Mills from Northwestern University asserted that the population revival in Chicago is a transitory blip that
will not in all likelihood be sustained.
He argued that the revival is largely
due to the robust economic growth
and tight labor markets the Midwest
enjoyed in the 1990s. However, in the
long term, he said he expects the interregional ascendancy of the South
and the West to continue. Furthermore, much of Chicago’s population
growth has resulted from an inflow
of Hispanic immigrants, who tend to
be lower-skilled and lower-income
workers, and therefore not engines
of long-term gentrification. In terms
of the prospects for large scale sustained gentrification, Mills claimed
that restrictive zoning will continue
to preclude high-income people from
moving to the city or from expanding
the few enclaves that they now inhabit.
He rejected arguments for Chicago’s
amenities becoming increasingly attractive, saying that these amenities
have been in place for a long time in
much their current form and fashion.
Other participants noted that one of
the most difficult struggles for Chicago
is the quality of public education, which
continues to deter home buyers. Some
participants expressed concern that
Chicago government was not moving
quickly enough to ensure that the proper zoning regulations are in place for
both residential and commercial space.
Others suggested that “people were
following new jobs” in their choice of
residence near the CBD. The replacement of retail with office employment
in the CBD and job growth more generally were identified as an important
reason for increasing demand for nearby housing.
Chicago—A real estate view
The second conference panel focused
on Chicago’s real estate market. John
Jaeger from Appraisal Research
Counselors reported on extraordinary
growth in residential construction activity in areas adjacent or near the CBD
and along the lakefront. Residential
availability in these areas increased
from 48,650 total units in 1991 to
60,117 total units in 2000. Available

rental units have declined due to
condo conversions in all areas except
River North, the fastest growing
enclave near downtown. The most
notable increase in units due to new
construction took place in the late
1990s. Chicago has historically had
a strong residential base and is currently desirable for residential construction due to land and zoning
availability, low prices relative to other large cities, a wide variety of cultural amenities, and a school system
that is (slowly) improving.
Walter Page of Equity Office Properties Trust explained that for decades
suburban total job growth has well
exceeded downtown total job growth,
with an even more pronounced trend
for office employment. A significant
challenge for Chicago’s center is
whether it can absorb the recent new
office space building boom.
Jacques Gordon from LaSalle Investment Management discussed the impact of the September 11 attacks on
the World Trade Center on commercial real estate in central business districts. Gordon reported that his clients
are still sorting through issues such
as whether they should concentrate
their operations in a single building
or spread them out over a larger geographic area. He identified a number
of short-term and long-term impacts
on both occupiers/users and investors/
developers. Some of the short-term
impacts, such as delayed real estate
decisions, could also be normal responses to a slowing economy, making it difficult to determine the true
impact of September 11. Long-term
effects could have profound implications for development in Chicago and
other central cities. In addition to bearing added security and insurance costs,
perhaps as much as $2 per square foot,
many companies and organizations
are seeking to spatially spread their
operations so as to back up or duplicate activities in the event of a work
interruption or disaster. There is likely to be an increased demand for teleconference facilities and broadband
connections. In addition, some premier skyscrapers may experience lower demand and command lower rents.

Don Faloon from Prime Group Realty Trust discussed the importance of
the physical structure of a city’s buildings and described how design has
changed in response to changing company needs. The major cost of doing
business is employee compensation,
and there are a number of ways in
which the physical environment of the
workplace affects productivity of employees. Design features can directly
contribute to employee satisfaction
and enhance productivity. For example, placing heating and cooling, electrical, and communication systems in
an underfloor design can improve air
quality, reduce building costs, allow a
reduction in the lease area per person,
allow for greater flexibility and reduced
cost in changing floor designs (lifecycle cost), and allow employees more
control over the temperature of their
workspace. Taller ceilings with more
windows can reduce the need for lighting fixtures and provide employees
with more desirable natural lighting.
One issue for Chicago is that current
building code restrictions limit the
use of manufactured wiring systems
(“modular” wiring systems), which
reduce first costs and life-cycle costs.
Understanding cities
Ed Glaeser of Harvard University suggested that to understand city performance—past and future—we must first
understand the functions that cities
serve. Why does the mutual proximity of people in dense configurations
give rise to value and wealth? In particular, Glaeser said, we might think
of cities as reducing the “transportation costs” for moving goods or commodities, for delivering services to
people, and for transferring/creating
ideas and information. Cities were
created to serve some combinations
of these purposes, and their prospects
are closely related to these various
transportation costs. Costs of transporting goods have fallen markedly
over the past century. Therefore, cities created to minimize those costs,
such as port cities of the Great Lakes,
are generally not faring too well. Service delivery costs may be increasing
in many cities as roadway congestion

is increasing commuting costs. Warm
and dry climates are increasingly valued by higher-income households,
while air conditioning allows these
services to be delivered or enjoyed
more readily. Accordingly, climate continues to be a durable explanatory
factor in explaining which cities are
growing. Finally, technological improvements such as computers and
broadband communications are allowing information and ideas to be
transmitted more cheaply. So far,
cities have not suffered deconcentration from these trends because
face-to-face communication activity
has also increased sharply. Glaeser
cites research indicating that cities
with the greatest concentrations of
college-educated workers have grown
the fastest, reflecting heightened
productivity of those who transmit
ideas. Nonetheless, over the longer
term, as communications technology
progresses, the need for very dense
configurations of higher-skilled workers may lighten.
Policy and the cities
Have federal policies assisted with
urban revival in the 1990s? Susan
Wachter of the Wharton School identified five specific areas of federal
policy as proactive and helpful. First,
community development block grants
target urban areas and downtowns.
Second, the earned income tax credit—which expanded greatly during
the 1990s—has been a significant
contributor to increased household
incomes in cities. Third, federally
authorized welfare and unemployment policies have increased competition among states and given them
(customized) control, leading to better programs. Fourth, a shift to section 8 or to vouchers has facilitated
a decrease in the concentration of
low-income households. Finally,
the Federal Housing Authority, the
Community Reinvestment Act, and
Fannie Mae and Freddie Mac dramatically increased homeownership
among low-income households in
the 1990s; homeownership surpassed
50% of households for the first time
in U.S. history during the 1990s.

At the very least, then, federal policy
was no longer a negative in the 1990s.
Federal assistance with other local service responsibilities—especially crime
control—may also have contributed.
Wachter asked whether the federal
government can now play an assisting
role with the primary obstacle to city
rebirth—elementary and secondary
education.
William A. Fischel of Dartmouth
College discussed the importance of
zoning and land use policies in the successful redevelopment of central cities.
In recent years, redevelopment and
reuse efforts have been hindered by
so-called NIMBY (not-in-my-backyard)
responses to redevelopment proposals.
While close attention at the neighborhood level to public issues often serves
the community well, in some cases it
may hinder desirable real estate developments, such as job-generating land
re-development. Fischel said that the
public sector may be able to take some
steps to redress this problem. For example, Oak Park successfully resolved
a racial desegregation concern by offering homeowners an equity insurance
program. Under such programs, homeowners are insured for a possible drop
in value in the event that the project
fails. Whether an equity insurance program can be carried out by private landdevelopers remains an issue.
Michael H. Moskow, President; William C. Hunter,
Senior Vice President and Director of Research; Douglas
Evanoff, Vice President, financial studies; Charles
Evans, Vice President, macroeconomic policy research;
Daniel Sullivan, Vice President, microeconomic policy
research; William Testa, Vice President, regional
programs and Economics Editor; Helen O’D. Koshy,
Editor; Kathryn Moran, Associate Editor.
Chicago Fed Letter is published monthly by the
Research Department of the Federal Reserve
Bank of Chicago. The views expressed are the
authors’ and are not necessarily those of the
Federal Reserve Bank of Chicago or the Federal
Reserve System. Articles may be reprinted if the
source is credited and the Research Department is
provided with copies of the reprints.
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ISSN 0895-0164

Terry Clark of the University of
Chicago concluded the conference
program by suggesting that city mayors
and the emergence of a “new political
culture” could explain some of the
gains made by cities in the 1990s. This
new culture encourages mayors to form
alliances with neighborhood leaders,
businesses, and community institutions
to improve the quality of life and the
available amenities of cities. This model
recognizes that cities exist to support
and attract human capital. Today’s educated and often high-income workers
are footloose, choosing among cities
for their amenities and quality of life—
safety, recreation and entertainment,
personal mobility, and architectural
esthetics. Assisted by a demographic
trend of often older, often childless,
and mostly educated two-earner households, a new generation of mayors
has tapped into the desire for urban
living. Employment and new business
formation have generally followed
this labor force into the city.

Summary
In summing the discussion, many conference participants agreed that it is
difficult to distinguish the effects of
public policy from those of fundamental economic and demographic shifts;
further research will be needed to understand central city revival in the
1990s. While some discussants supported the hypothesis that both better
amenities and demographic happenstance have assisted Chicago’s revival,
others were emphatic that economic
regeneration in the central business
district has pulled along the city in
the 1990s. Chicago’s CBD has prospered from the rapid growth of business service industries that began in
the 1980s and continued through 2000;
an intense concentration of specialized legal, management consulting,
accounting, communication, business
education, meeting/travel, and other
services has bolstered Chicago’s position as the commercial capital of the
mid-continent. Highly educated workers, especially new entrants, flock to
the city because it offers a wide and

advantageous range of opportunities,
along with an exciting and comfortable
urban residential lifestyle. The several
“edge city” complexes of employment
may be linked to Chicago’s CBD, if
not in trading relations and sharing
of the work force, then in sharing the
bounty of Chicago’s mega-airport facilities and other key infrastructure,
such as the region’s telecommunication backbone. Meanwhile, other
Midwest cities continue to be at a disadvantage in their industry mix—which
remains concentrated in production
manufacturing rather than in business
services. The city of Chicago has also
received a large influx of immigrants
relative to other Midwest cities. Overall, there was no consensus among the
conference participants as to whether Chicago will continue to prosper
in the current decade. Some expressed
the view that the underlying trends
that have boosted central city Chicago
may serve as building blocks on which
Chicago and other central cities can
fashion successful growth and development policies in the years ahead.

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