Published on Let's Talk Development

Cities in the aftermath of great recession

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Cities around the world face a serious fiscal crisis following the Great Recession of 2008. Five years later, the after-effects of this crisis continue to be felt and limit economic opportunities in cities.

Revenue of cities around the world—either generated by municipalities or derived from State transfers—have decreased sharply because of the economic slowdown, as did the fiscal value of real property. Some local governments also lost major assets that they invested in risk funds and banks that collapsed during the crisis. City expenditures—especially spending to address social needs—rose because of the slowdown in economic activity and the corresponding increases in unemployment and social welfare needs.  The decline in revenue and increase in expenditure led many cities to experience the worst “fiscal crunch” in decades. Financing capacities shrank owing to the difficulty in obtaining loans and the increase in the cost of money. Banks and bond issuers—the main financiers of cities—have been heavily impacted. The credit rating of cities was heavily impacted because of declines in the tax base, expenditure pressures and increasing debt. Foreign investment to finance infrastructure has declined; operations underway have been put on hold and many projects have either been cancelled or delayed.

Temporary employment programs can be used as a labor absorption tool to deal with severe unemployment, especially affecting low-skilled poor workers. But in many parts of the urban world, for instance in Latin America, tackling the Great Recession requires profound reforms and not only stop-gap measures.

In coordination with—or financed by—their national government, many cities around the world have adopted stimulus packages to mitigate the impact of the recession on the local economy. In Spain, Madrid and Barcelona invested heavily in city infrastructures and renovations. In China also, local government spending played a key role in strengthening the overall impact of the central government stimulus. In the United States, employment generated by President Obama’s stimulus package reached an estimated 3.4 million by March 2011 according to a paper published in the August 2012 issue of the American Economic Journal: Economic Policy.

Recovery plans stand half-way between short term measures to sustain aggregate demand and long term strategies to allow cities to sustain growth. While roads and bridges provide a classic outlet for funding aimed at immediate employment growth, recovery plans focus on a more diverse range of industries—from restaurants and tourism to alternative energy and affordable housing—with the objective to make economic growth sustained. Cities like Newcastle, Rotterdam, Dublin and Turing have done this successfully over a number of years.

Collapsed tax revenues, unemployment, disinvestment, disruption to municipal services, and the climate of uncertainty have challenged local leaders like no other previous crises, and cities need to take action to address the dramatic fiscal deterioration in their public finances beyond short-term measures and recovery plans—as emphasized by Greg Clark, the brilliant moderator of the Sixth Urban Research Symposium on Rethinking Cities organized by the World Bank and the City of Barcelona.

In a paper that I prepared with Curtis Morrill for the Barcelona Urban Research Symposium, I point out that urban managers have three tasks: creating opportunities for their citizens, making decisions that are financially sustainable in the long term, and choosing flexible and adaptable solutions. I also argue that, while there has been a lot of talk about "smart cities" and new technologies among urban specialists and urban planners, it is ultimately the focus on sustainable financing, efficient provision of services to citizens and good incentives for providers that will create sustainable, dynamic and livable cities.

Creating opportunities for the population means ensuring that the quality of life of its inhabitants—particularly the least fortunate—is improved; that the city invests in human capital formation; and that all inhabitants participate and are included in political and cultural life. Empowerment programs—like those of the Asian Coalition for Community Action (ACCA), funded by the Gates Foundation, or the Shack/Slum Dwellers International (SDI), a network of grassroots organizations that enables impoverished urban citizens to invest in neighborhoods—achieve good results precisely because they invest in urban human capital and promote the social, political, and economic inclusion of previously disenfranchised citizens.

Urban investments are urgent but—even when they are irreversible—there must be room for adaptation and future reforms. Transportation and communication modes can shape economic life for decades or centuries. Urban dwellers will have to live for 50 to 200 years with the consequences of urbanization plans and building norms. New investments will have to cope with future climate conditions that will be radically different from current ones. Architects and engineers must therefore account for these expected changes. In addition to simple heuristics (e.g., adding safety margins to all design characteristics to cope with larger-than-expected extreme events) and cost-benefit analysis, there are several ways to make sure that today's investment decisions do not lock cities out of options tomorrow. Given that urbanization will be rapid, city managers have to be prepared to adapt flexibly to economic, financial, demographic, employment and climate changes.

In order to finance cities, domestic capital has to be leveraged and there are innovative ways that have emerged since the 1990s. In the early stages of development, when devolution is inconsistent and legal frameworks for borrowing are weak, successful urban financing is often based on loans and grants while such institutions are strengthened. As institutions mature, more complex financing schemes become available, and there are various instruments to link urban finance to both domestic and foreign capital markets. In low income countries, performance-based grants and similar practices have enabled urban governments to strengthen finance capacity in Mali, Macedonia, Ghana and Nepal. Access to domestic and foreign capital markets has been facilitated in Colombia, El Salvador, Georgia, the Philippines or Morocco by municipal development funds. A range of other innovative financial mechanisms exist to ensure long run financial stability, such as tax incremental financing (TIF) or value capture finance, a more sophisticated method used with success in Istanbul, Berlin, Hamburg, Copenhagen, Hong Kong, Singapore, and Tokyo. Specialized development organizations can also coordinate the financing and planning of urban infrastructural investments. There is no simple solution to dwindling revenues, high borrowing costs, and reduced access to credit for cities today. But, by thinking critically about their sources of capital, cities can tackle the fiscal challenges of today while building sustainable financial systems for the future.

There is a lot of talk about “smart cities” and technology among the community of urban specialists and urban planners—but somehow this discourse misses the point.  Clearly picking appropriate technologies is important, but ultimately improvements in governance and institutions are more important to improve urban life. Current practices show that the goals of environmental and financial sustainability are often not incompatible. Yet climate finance practices exist allowing cities in the developing world to raise additional revenue for climate friendly infrastructure through the sale of clean development mechanism (CDM) carbon credits to more advanced nations. The bus rapid transit system in Bogotá—praised for being green, flexible, and cost effective—is expected to raise over $25 million in this way. Congestion taxes have been implemented in Milan, Singapore and London. Green bonds, used by the World Bank and the European Investment Bank to raise private capital for environmentally-friendly infrastructure, have great potential.

Ensuring that local authorities are fiscally and administratively responsible and accountable is critical to make sure that funds are raised and spent sustainably and democratically. An index of the closeness of local decision-makers to their people was developed by Anwar Shah. It shows that the countries in which politicians are closest to the citizens—these are, in order, Denmark; Switzerland; Sweden; Finland; United States; Norway; Iceland; Japan; Hong Kong; Singapore; Austria; Korea and Canada—that tend to be those that have successful cities.


Jean-Jacques Dethier

Manager, Research Services, Development Economics Vice Presidency, World Bank

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