Transcription:
Keeley Webster (
I am Keeley Webster, West Coast Senior Reporter. I have with me today, Chris Thornberg, founder of Beacon Economics and Marc Joffe, a policy analyst with the Cato Institute. California Silicon Valley has been described by some as the economic engine for the state. What does that say for the future of the San Francisco Bay area and the state, given the recent layoffs in the tech industry?
So Chris, you've said you don't think the situation in San Francisco is as dire as the recent layoffs at Salesforce, Twitter and Facebook would indicate. Could you explain your thinking around that?
Chris Thornberg (
Well, I'm just looking at the overall labor numbers. Remember, as a macro economist, I am fond of looking at the macro picture. And here's what I see in the Bay Area. When you're looking at the West Bay, when you're thinking of Santa Clara County up to San Mateo and San Francisco County, you still see a record number of jobs in those critical information and professional services sectors. So in other words, while certain companies may have overdone and gotten ahead of themselves, they're laying people off. But there's plenty of other companies that are continuing to move forward and adding to their labor force. And as for those layoffs specifically, it's worth remembering that the unemployment rate in the Bay Area right now is well below 3%. Ergo, if Twitter lays somebody off they're going to very quickly find a home somewhere else in that very, very labor scarce market right now. So for me, this is really more anecdotal than systemic.
Keeley Webster (
Do you think the diversification in the tech industry will prevent the Bay Area from another tech crash similar to what occurred in 2001?
Chris Thornberg (
Well, what happened in 2001 wasn't because of diversification. It was because the financial markets got way ahead of themselves. The valuations they were applying to things that were nothing more than vague ideas were well insane. And we figured that out when the market crashed in late 2000, early 2001. And what was revealed, of course, is that all those companies weren't ever going to be able to make the kind of money that the valuations would've anticipated. That is why the industry shook out so hard at that particular point in time. We are seeing something like that right now, but it was very short-lived. What happened was from 2020 to 2021, there was a doubling of venture capital pouring into the Bay Area, which had a lot to do with the overstimulation of the economy by the Federal Reserve over the course of the pandemic.
(
Well, that number has since dropped back down to 2020 levels. In other words, it's half of what it was last year. And you're starting to see, of course the signs of some of that easy money going away. But it was one year of crazy easy money. Now we're shrinking back to something resembling normalcy. That is to say what happened in 2020, which was a record year for venture capital. So when we look at what's going on in the Bay Area right now, are we looking at an economy that is sinking into something? Or, are you looking at an economy that was so overheated for a one year and is now dropping back to normality? I would go for that latter situation, the latter interpretation of things.
Keeley Webster (
So there's been a lot of media attention on the vacancy rate and how high it is for office space in San Francisco. Do you have any concern that the Bay Area ends up with the kind of donut syndrome that occurred with major cities on the East coast in the nineties where everybody is living in the suburbs and the city just kind of falls into ruin? Or no?
Chris Thornberg (
<laugh>? No, I'm not really worried about that. Again, because things are so tight. What you're really seeing in a lot of these tech markets is a combination of two things. One part of it was an over-building boom. If you look at the Bay Area, we came out of the Great Recession and take San Francisco office, vacancy rates were pretty high coming out of the great recession, and they never dropped much. But despite that, what you saw was an enormous construction boom. Look at all the new wonderful office towers up in the Bay Area in San Francisco right now that have been completed in the last decade. Well, that was simply too much space. Now of course, with the pandemic behind us, turns out tech is using remote workers a little bit more than other industries. And yeah, we're seeing a lot of leftover office space, but the new stuff they just built almost assuredly will continue to be filled up because in this competitive market for labor, having a good office is a critical component of attracting the best employees. So where you're really going to see the shakeout is going to be from that kind of class C, class B, older office stock, there's not going to be a lot of demand for that. What are they going to end up doing with it? And on that front, well my personal feeling is we all need to learn how to take off that old office stock and turn it into some sort of housing because ultimately that is the biggest problem in the Bay Area. It's not a tech bust, but the ongoing housing shortage.
Keeley Webster (
So Mark, you said that any comparison to the dot.com bust and rebound is a false narrative because work from home was not an option for most tech workers from 2000 to 2001. Could you explain your thinking there and do you think that means the city is less likely to rebound?
Marc Joffe (
Sure. So Castle System shows that San Francisco and San Jose have had the lowest return to work ratio of any of the 10 major markets, which indicates that specifically for tech-heavy companies that work from home is becoming a more permanent feature of the economy than we might have expected at the beginning of the pandemic. And I think that will translate into a long-term reduction in demand for office space.
Keeley Webster (
So do you think office space will stay vacant because people can work from home and companies can now avoid paying high San Francisco office rents? Or do you think we're going to see more of what happened in the mid-aughts in downtown Los Angeles where some of that gets converted to housing?
Marc Joffe (
Well, certainly I think it would be good public policy, especially for San Francisco and possibly San Jose as well, to do office to residential conversions. We'll have to see whether that's something that policy leaders will opt to do. But I think that one thing you have to consider specifically with downtown San Francisco, and I just want to say I mostly agreed with what Chris said, but focusing very narrowly on downtown San Francisco, there's an additional problem of the quality of life in that area being compromised by problems with transit, problems with a lot of retail vacancies and problems with a lot of homeless people on the street. So we hear anecdotes about people being scared to come downtown or being concerned about going on the Bay Area Rapid transit system. And to the extent that those stories proliferate, I think you'll see much more hesitancy to go back to the office than would have happened say 15 or 20 years ago when work from home was not an option.
Keeley Webster (
So Chris kind of throwing that to you too, I mean, do you think you mentioned more that you think there's just going to continue to be a lot of competition for Class A office space, but do you think we see some of that class B get getting converted to housing in the same way that that happened in Los Angeles?
Chris Thornberg (
Well, they're going to try. I mean, I think you will find, and that when you think about Los Angeles for example, the old industrial is ripe to be converted into loft. They're going to find that most office space isn't as easy to convert over to something that will be fun to live in. You're going to have to, I hate to use this cliche, but think outside the box to make a lot of this work. So you're going to have some inventive people and to Mark's point, you're going to have to have local policymakers embrace that. It's amazing how often they're not willing to, in part because neighborhoods will often get very upset if they hear that office building is going to get converted into housing because that will bring children and other terrifying things. And <laugh>, Lord knows we don't want that in California.
(
But putting that to one side, the other part of what Mark said, which I understand where he's coming from on this San Francisco, parts of San Francisco really have become dangerous. I mean there are stories of how people voluntarily remove the radio from their car and leave their windows open just because that way they're not going to get the car broken into and have shattered windows for no particular reason. I hear that, but I was up there not too long ago and it didn't quite feel like the "Escape from New York" scenario that is often described in the broader media. There's a little doubt downtown San Francisco's quiet, but they got a new mayor, they got a new D.A., there's an increasing awareness of the problem at the street level that they're going to have to conquer. And to be clear, San Francisco has every incentive to do so.
(
What's really interesting here is it true that in a lot of ways a lot of workers haven't come back and as a result of that, taxable sales are really down in San Francisco. Tourism as well like Las Vegas right now is busier than it's ever been. San Francisco really, really cool in part because the global visitors haven't come back. And yeah, there's that reputational aspect. Cities go through this, everybody has that tough time. You have the awareness, you do it. My guess is not going to be a permanent feature of the San Francisco situation. And let's remember, even if San Francisco has a couple of years of tough times, let's remember where this city is right now. Prior to this last big run-up, San Francisco never had more than 550 600,000 jobs in that county. Nowadays it's well over 700,000. It still has the biggest economy it has ever had. There's a lot of momentum there. This is a big bump. They'll figure it out. I'm not worried about it.
Keeley Webster (
Chris or Mark, do you think city life or the attractions of restaurants, museums, walkable living in San Francisco, has lost its lure? Or do you feel like that continues to be an attraction living in the city?
Marc Joffe (
Well I will jump in on that since I live just outside of San Francisco and I have that decision periodically as to, hey, am I going to go into the city over the weekend? So I agree with the point that Chris made that the downtown is one thing and then the rest of the city and the rest of the Bay Area is another thing. There are still large parts of San Francisco that are very attractive, like visiting the marina. A new park just opened near the Golden Gate Bridge. So there are a lot of nice things to see and do in San Francisco. My concern is with the downtown and there are some amenities there, but I don't think it's enough to really attract visitors.
Chris Thornberg (
Well again, I think that means different parts are having different sorts of issues. Again, it is one of the jewels of the West coast. I think it's as simple as that in a lot of ways this may be more of a PR battle than an actual policy battle for the city. And let's create a little bit of a, because Mark does live up in the area, and I think Mark would agree with this. Let's contrast what's happening in San Francisco, where obviously there's a bit of a transition going on, but compare that to Oakland and Oakland, which has had some of the worst policy decisions made on the part of the city council. Over the last few years these bad policy choices have been pointed out to the city council and their attitude is, yeah, I don't care if it's bad for the city's economy, it's the right thing to do as if killing the economy there is a good thing, which is not. And as a result of that, you look outside of the City of Oakland at places like Emeryville, and they are busier than they've ever been. So it's an odd dichotomy in the Bay Area right now. And I think that we too often take the parts of the Bay Area that are having a tough time, that are struggling because of specific policy decisions and use that as a reflection of the overall Bay Area, which remains again one of the most dynamic economies on the planet.
Marc Joffe (
Let me just comment on that. I don't disagree entirely, but you know how Chris pointed earlier to the low unemployment rate in the Bay Area, which of course is true. However, there's been a lot of out migration from the Bay Area. So that low unemployment rate is going against a smaller workforce. With respect to Oakland and Emeryville, I think Emeryville has done well from an office point of view, but in retail they have a big problem. They've raised their minimum wage to around $17 an hour and a lot of the fast casual restaurants in Emeryville have closed now. So they even have economic issues there.
Keeley Webster (
So Chris, you had mentioned before that cities like Stockton and south of the Bay Area are booming because the warehouses, delivering everything to the people now working from home and the Bay Area, are emanating from there. Do you feel like those outlying areas of the region are kind of replacing downtown San Francisco and maybe even San Jose's tech industry as the economic engine.
Chris Thornberg (
No, no, no, no, no, no. I think you're just seeing, if you will, the ongoing rise of logistics helping the logistics based economies and look, tech had an amazing decade prior to the pandemic, maybe even too much in terms of venture capital and craziness in the stock market. I think it's fair to say that tech got ahead of itself. We all know that there's been a lot of money invested in a lot of industries and it wasn't sustainable. So I see this as a cyclical situation, not a structural situation. It's going to play out relatively quickly. Again, this is not 2000, this is not the end run of five years of insanity. This has been an industry that got a little ahead of itself. There's a lot of competition and things got to shake out.
Keeley Webster (
So what are you two predicting for next year? A lot of economists are predicting a mild recession for next year, if any at all? What's your take on that?
Chris Thornberg (
Well, I'm sure Mark might have an opinion for one, but I don't think we're doomed to have a recession next year. It is true the big hike in interest rates is hurting the sensitive parts of the economy. Just look at housing and how it's obviously turned downward quite sharply. But at the same time, consumer spending remains remarkably strong because consumers are sitting on trillions of dollars of excess cash. And I mean that sincerely, that is not an exaggeration. Trillions of dollars of excess cash that's left over from the excessive amount of pandemic support thrown at the economy by the Federal Reserve and Congress. So as long as the Congress remained as, excuse me, as long as the consumer remains strong, there's no reason the US economy can't pound right through these higher interest rates. But of course the Federal Reserve continues to jack up rates, look, at some point in time they will break it. So it's really up to Jerome Powell. Nothing is fatal at this point in time.
Marc Joffe (
One thing that I was expecting to happen that hasn't happened so far is that the big run up in interest rates would cause a lot of leverage loan defaults. And that seems to be taking its time if it's going to happen at all. So it does seem the economy is much more resilient even on the commercial side to higher interest rates than I would've expected. So it could be that Chris's positive forecast is the one that's going to prevail in 2023.
Keeley Webster (
So you have both mentioned San Francisco's governance as an issue in prior interviews. Is it one of the larger problems facing the Bay Area? Could you expand on that a little bit? What do you guys see happening there. Do you think economic recovery is dependent on what city leaders do?
Marc Joffe (
Well, San Francisco's government really expanded during the flush times and the entire budget right now is $14 billion. It's a little bit hard to compare to other cities because San Francisco does operate an airport, which brings in a lot of revenue as well as some other enterprise funds. But on a per capita basis, even if you look at just general government spending, it's really high compared to other governments. So now that conditions are going to be less bullish, the question is whether San Francisco is going to be able to reign in and given the fact that public employee unions and advocates for retirees and nonprofits that receive a lot of funding from San Francisco municipal government have a lot of power, I think it's going to be very difficult for San Francisco to right size its government, so it doesn't impact economic growth. I think that will be a big challenge for the mayor and the supervisors.
Chris Thornberg (
So my comment is going to be a little bit more global when you think about how local governments operate and how governments in general operate. Governments typically are run by elected officials, who are typically chasing what I would call public narratives. Because if you capture the right public narrative, that's your ticket to becoming elected and becoming a politician with a future. So the narrative over the last oh 5, 6, 7 years, or maybe even more than that, a decade in the US has been a narrative about equity inequality issues that historically disadvantaged communities have faced. And I agree that those are completely real issues and it's something that we need to be focusing on. But there's a whole other set of issues, which is just basic good governance. How do you make your bureaucracy run well? How do you make sure the trains run on time? That is also important for local government.
(
And unfortunately the enormous focus on equity has left behind what I would call some of the more bread and butter practical aspects of local government in the dust. One of the results of that is you remember we had the former district attorney in San Francisco who refused to prosecute even minor crimes. And this is what led to that horrendous problem at street level in San Francisco, even as those tech companies in the tower were doing great, well, San Francisco has said enough of that, they threw out the D.A., they threw out a bunch of people on the school board and they are electing politicians who are focusing on that boring bread and butter stuff, which is really very important for cities on a day-to-day basis. And that's what gives me hope very often. It often takes a crisis to get electeds to focus on what they need to do next. San Francisco has hit the crisis, they're already readjusting and that's again, what gives me hope that they're going to be able to pull out of this relatively quickly.
Keeley Webster (
So what about in terms of the housing crisis? Do you feel like the city's making some traction on that and dealing with homelessness?
Chris Thornberg (
Well, homelessness and the housing crisis are different things. We often combine them, but they are different. Look, we have an enormous crisis when it comes to things like addiction and mental health. Our society has failed to address this and for a long time those folks were living in shabby downtown places that you didn't go near well with the shortage of housing. They've been pushed onto the street and we're now being forced to confront a crisis that's been decades, not years in the making. And we turn around and say, well that's because of housing shortages. No, those folks have always been there. But the housing shortage has made it has sort of revealed it as the case may be. Now, as for the housing shortage itself, what's interesting is the West Bay has done a lot. San Francisco, San Jose have done an enormous lift in terms of getting a lot of multi-family built over the course of the last decade, which is unlike the previous decade where they built very little. But at the same time the East Bay is not building enough and you continue to have overall housing shortages. Like most of the state, the housing shortage, is really a cap on potential growth and not, if you will, a threat to growth.
(
It doesn't really work that way. If the economy really starts to turn south in the Bay Area, the first place you're going to see it is in home prices. Because remember, more or less home prices simply reflect the relative demand to supply of homes. If they're high, there's still a lot of demand, which means the Bay Area fundamentally is still very, very strong.
Marc Joffe (
I would just add that home prices have started to drop in the Bay Area in California generally, and sales volumes are going down as well. So that could be supportive of Chris's belief. We'll have to see what happens with rents. New people who want to move into San Francisco are usually going to start by renting, and in San Francisco and San Jose rents have been very, very high for a really long time.
Chris Thornberg (
And rents are bouncing back and every place in the United States is seeing home price declines. It's not just California. And that's just because of the insane increase in prices we saw over the last couple years. We had a mini bubble driven by $5 trillion of quantitative easing. We're absolutely going through the back end of that, but it is what it is. Ultimately, these are short-term things. There's not a lot of debt attached to it, which is why you're not seeing all this debt crisis emerge even as asset prices drop back to something reasonable.
Marc Joffe (
I think that California, especially the Bay Area, started dropping first and as it dropped further than some other cities, especially back east. I know that Salt Lake City and Boise have had very large corrections as well, but it seems like more on the west side of the country we're seeing these home price declines. And again, probably because they got further ahead of their skis than other parts of the country, if I just can put in on the homeless issue, I agree also that this used to be an issue of people living in single room occupancy hotels, and when those were closed it became more visible. But at the same time, I do think that homelessness has become more concentrated on the West coast because there's a perception that the weather is better and it's easier to support your habit in your more permissive places like San Francisco and Los Angeles. So I think that the incidence of homelessness has changed over time. Would you agree?
Chris Thornberg (
It's hard to say. We don't have good data on that stuff, but I absolutely hear where you're coming from. There's no doubt about it.
Keeley Webster (
Not just California, but Washington state is experiencing a homeless problem. That being the case, would it not indicate it's more than just good weather in California attracting people who become homeless. It seems like a lot of it had to do with the ruling by the judge in Boise that said that homeless people have a right to live on the street that kind of tied the hands of cities. And it seems like there's been some movement on that, how do you guys feel about that?
Chris Thornberg (
That's exactly right. I mean, that's what I was completely agreeing with you on that there is, at some level, we all have to acknowledge that part of the rise in homelessness is driven by growth. Really the unwillingness or inability for local law officials to do anything about it, if you make it permissible, more people are going to be willing to do it.
Marc Joffe (
And I think it goes back to a point Chris made earlier about the political winds and how they might be changing. I think you're right that people are going to be less interested in big picture items like equity and more interested in are the streets clean and so forth and echoing that we have the fact that Governor Newsom probably is eyeing the White House at some point, and if this visible problem that's constantly being portrayed on Fox News and other right wing media as being California's existential crisis with homelessness, if he's not able to show improvement on that, I think it's very difficult for me to see how he gets to the next level. So I think there are very strong political incentives now to deal with this that didn't exist a few years ago.
Keeley Webster (
This is a multi-pronged issue that we could probably spend more time on. But we're coming to the end of our time. This has been a really robust discussion. I appreciate both you taking the time to speak with us about how San Francisco is faring amid the tech industry layoffs and other economic pressures. And thanks to our listeners for tuning in. Thanks to producer Kellie Malone. Rate us, review us and subscribe to our content at www.bondbuyer.com/subscribe. From the Bond Buyer, I'm Keeley Webster and thanks for listening.