Cities have faced a host of challenges over the course of history, such as affordable housing, transportation, public safety and economic opportunities. In today’s rapidly changing global economy, these challenges are becoming increasingly complex, with cities needing to adapt to technological advancements, climate risks, and fluctuating fiscal policies. The most successful cities are dynamic and adapt to changing circumstances. Consider Pittsburgh, Pennsylvania, as a prime example. Once known for its manufacturing might, Pittsburgh had to reinvent itself after the collapse of the steel industry in the 1980s. The Steel City successfully mounted a turnaround by becoming an innovation hub, thanks to a strong academic presence and low cost of living that attracted technology and healthcare employers. What lessons can cities draw from urban transformations of the past? 

This episode of The Outthinking Investor explores the role investors will play in solving many of the challenges that cities face. With opportunities emerging across real estate, infrastructure, technology and more, institutional investors are already providing much of the capital needed to fund urban development. Edward Glaeser, economics professor at Harvard University and co-author of “Survival of the City: Living and Thriving in an Age of Isolation”; Jeff Speck, partner at the urban planning and design firm Speck Dempsey; and Cathy Marcus, Co-CEO and Global COO of PGIM Real Estate, discuss the evolution of cities, the challenges they must overcome, and emerging opportunities for investors. 

>> The modern city is a symbol of permanence, grounded in steel and concrete, the buildings and infrastructure are designed to last forever. But cities are far from static. They're constantly changing with the times. Pittsburgh, Pennsylvania, is a prime example. The city used to be synonymous with steel. Even before the steel industry collapsed in the 1980s, many attempts to revitalize Pittsburgh proved unsuccessful, but the city refused to fall. What's the lifeline that's kept Pittsburgh going? Some point to the city's academic core, its strong sense of community, and its low cost of living. Others say it's pure luck. Perhaps it's the city's benefactors -- names like Carnegie, and Mellon, and Heinz -- with deep pockets to fund much of the efforts. For decades, Pittsburgh saw declining wages and an aging population, until the city's low cost of living began to attract more technology and healthcare employers. That's driven much of its transformation and led to an increasingly educated workforce. Pittsburgh's situation may be unique, but all cities face challenges. The most successful cities are dynamic. They adapt to changing circumstances and remain desirable places to live and work. But what does that mean for investors? What can we learn about cities past and present to better understand the future economic and investment impacts? To understand today's investment landscape, it's important to know how we got here. This is the Outthinking Investor, a podcast from PGIM that examines the past, the present-day opportunities, and the future possibilities across global capital markets. Edward Glaeser is the Fred and Eleanor Glimp Professor of Economics at Harvard University and co-author of Survival of the City: Living and Thriving in an Age of Isolation. Jeff Speck is a partner at the urban planning and design firm Speck Dempsey. Cathy Marcus is co-CEO and global chief operating officer of PGIM Real Estate. No two cities are alike. Each experiences its own combination of tailwinds and headwinds. The COVID pandemic, however, affected virtually every city in the world. Ed Glaeser wrote Survival of the City in the last half of 2020 when parts of the world were coming out of lockdown. It looked as if cities were under siege.

>> They were under siege not just because of the immediate pandemic risk, which has at least, in the short run, receded but they were at risk for other facts as well. They were at risk for things that hadn't really seemed as terrible, at least since the 1980s. So I grew up in New York in the 1970s, when it really seemed as if that city, and all of America's older, colder cities, was headed for the trash heap of history. The combination of radical changes in transportation technology, which made it possible to manufacture cars far away from Detroit and manufacture garments far away from New York, meant that industry was no longer captured in these older places. And at the same time, cities tried to right longstanding wrongs by becoming far more progressive, which meant both taxing firms and taxing the rich and also not providing core city services like public safety. This led to a mass urban exodus and led to a real urban crisis of the late 1970s. Luckily, at least some of the older, colder cities managed to right their troubles.

>> Pittsburgh has become a case in point. But for at least the past decade or so, many cities were becoming more associated with a lack of affordable housing, public safety issues, inequality, and the general lack of upward mobility.

>> And so for these reasons, there was a lot of unhappiness about the way cities were functioning even before we got to COVID, and then, of course, this great old urban curse of pandemic reappears. And so I was worried, particularly with the rise of Zoom, the rise of telework, that we were going to repeat the 1970s, that we were going to see an attempt to deal with these unfair, unequitable things, but we were going to do it by not keeping our cities safe, by not keeping our city tax rates low, and that we were going to have the same type of mass escape enabled by Zoom, enabled by remote work that we had seen in the 1970s and cities would be on the edge of survival again. And we wrote the book in order to, in some sense, provide a playbook so that cities could deal with these problems in a way that didn't actually chase off the taxpayers.

>> In the most recent edition of the book, Ed and his co-author ranked the largest 50 metropolitan areas in the US by economic measures, including employment, wages, housing permits, and housing prices.

>> When we do that, we see a very clear Sun Belt tilt, which shouldn't surprise you. I mean, in general, there's no variable which better predicts metropolitan area growth over the past 120 years than January temperature. These tend to be, of course, newer cities, and they tend to be cities that are much more pro-business and much more pro-housing. So all of those things sort of make them easier both to start businesses and to build. Interestingly, it's not just a labor supply effect, because if you thought it was just people moving to warmer areas because they wanted to live in warmer areas, then you would expect to see employment going up but wages actually going down. And it's not true. Both employment and wages are going up in sunnier places somewhat more. Our top five list is Austin, Miami, Tampa, Salt Lake City, and Jacksonville. So these are actually big cities. They're often very skilled cities.

>> Ed uses a simple two-factor model of economic growth for cities, looking at whether government has sensible pro-business policies that make it relatively easy for businesses to grow and whether there's a large proportion of educated residents. That's a powerful combination.

>> Technology and education are very strongly correlated. The reason why Seattle doesn't look at all like Detroit is because 60% of Seattle's adults have college degrees as opposed to 15% of Detroit's adults that do. And that's why Jeff Bezos decided to drive there 30 years ago when he started his company. But those skills have become a little bit of a drag because it means that people are particularly not going into the office. In May 2020, 68.9% of Americans with advanced degrees were working remotely. Only 15% of Americans with just high school degrees were working remotely. So huge educational divide. Washington D.C., obviously the federal government has allowed remote work for a very long time in many parts of it. And that means that Washington is very much not coming back easily. And, of course, New York and Chicago where their massive scale has been largely an asset for most of the past 50 years. That large office market has become, again, something of a drag in an era of Zoom. What we're all hoping for is that rents are going to decline enough in the office market that people will eventually start coming back and you'll have places that don't really care about making workers come back in be replaced by younger, scrappier firms that want to come back in, so that those offices will become repopulated or converted to something else.

>> Cities are constantly evolving and responding to internal and external forces. But according to Jeff Speck, what makes a city attractive has remained relatively constant.

>> What I found in a few decades of doing city planning is that the best-planned cities are the walkable cities and that the best way to plan a city and make it as livable as possible, as successful as possible, as much of a magnet as possible, and frankly, as healthy and sustainable and equitable as possible, and social as possible is to make it a walkable place. So I've reoriented my practice and my whole conversation about cities around the term of "walkability." But I firmly believe that making a city more walkable and making that your identified and specific goal is, from at least an urban planning perspective and a city design perspective, the best strategy for having a more successful city.

>> That sounds like common sense, but there are also proof points to support it.

>> So the epidemiologists were making it very clear, for example, that we had the first generation of Americans now moving on to the second generation of Americans who are expected to live shorter lives than their parents. And they said -- rather than looking at diet or other things that Americans are known for being bad at, they said, the reason for this is that we've engineered out of existence the useful walk in our communities. There's so many costs which end up being economic costs because they end up being health costs that surround driving that we haven't fully considered. But there's a whole other economic conversation around walkability, which is quite a positive one, which is the value of making more walkable places. And I've worked for several development companies, and the reason I was working for them was because they realized that their walkable assets were performing much better than all their others and that walkability was one of many ways of measuring how well location, location, location was going to serve them and their portfolio, which, by the way, they were holding money mostly for pension funds and other large institutional investors trying to maximize their return.

>> There's a well-known concept called the "walk score" that measures a property's merit in terms of its walkability. It's calculated for most big cities in the US and in several other developed countries.

>> Some economists studied walk score across home values and they found an incredible premium for the house that's in a more walkable place. So I think in Denver, there was a 200% premium walkable versus less walkable. In New York City, it was a 300% premium. A house in Greenwich, Connecticut, lovely as it is, is worth one-quarter per square foot of an apartment in Greenwich Village, right in the heart of New York City. So people pay much more, obviously, to be in more walkable places. That makes perfect sense. But you also noticed that when the real estate bubble burst in '08, the losses in real estate value that occurred across the board were much, much stronger in suburban office parks and suburban housing clusters than they were in urban places. In fact, urban office space pretty much retained its real estate value through the housing bubble bursting, and that now, people are finding it's kind of an interesting reversal. Again, it's the mixed-use walkable places that have everything that have recovered the strongest from COVID. Main streets were recovering from COVID, in terms of the retail mix much quicker than the central business district downtown. Because obviously, they had daytime and nighttime customers, whereas with people not coming back to the office so quickly, the retail downtown was struggling. So if you want a resilient place, a place that's economically able to weather all these different cycles, you're going to have a fully mixed-use place. And the first rule of making a walkable place is to have the proper balance of uses, right? What we call the useful walk. And if you -- from an economic perspective, invest principally in mixed-use places, you're going to have that resilient return.

>> Real estate investors know there are a lot of factors that affect valuation and the combination of factors varies over time and across markets. Cathy Marcus's deep and broad experience investing in real estate globally provides perspective on the current environment.

>> Bottom line, we have just gone through a fairly significant repricing of the asset class. We are in a difficult market environment, but that environment was really caused by interest rates. The rug was pulled out from under our real estate market because of rising interest rates, not because of deteriorating real estate fundamentals. So there have certainly been past downturns that have been caused by oversupply. Essentially, we have often. And this is very true in the savings and loan crisis, where we sort of built our way into a real estate downturn. That was not the case here.

>> In fact, there's a shortage of affordable housing across much of the world, and particularly in Western countries. That's added pressure to the rental market in the US.

>> For a variety of reasons, we're seeing more renters in the market, and we're seeing people rent for a longer period of time in their lifetime than they did in the past. And there are a few drivers of this. Number one is people are getting married later. There are many people, particularly in the millennial generation and younger, who have very substantial student loans. And that makes it that much more difficult to qualify for mortgage. We've had a period of time because of the cost of materials and labor, that the cost of new housing has gone up tremendously. So you -- couple inflation of building costs and labor costs with a shortage to begin with, and then you really have extreme price acceleration, which is what we saw. And now finally, we have mortgage rates that are four times higher than they had been. And so all of those factors are giving us a lot of conviction around all different kinds of rental housing.

>> Global living is one of several high-conviction investment themes that PGIM Real Estate has focused on. Multifamily properties in particular are an opportunity here because of the lack of affordable housing and rental properties.

>> We feel very good about the longer-term prospects for continued rent growth in multifamily apartments. Interestingly, it's a very, very mature market in the US. Europe has really only been in the past five to 10 years seeing that type of market. It actually used to be much more common that if I lived in London and I was going to rent an apartment, I'd probably be renting from an individual investor who might own three to five units, versus generally, in the United States, you're renting in a project that has 200 units and it's managed by a large public company. That is now starting to become more popular in Asia as well. We also -- from a demographic perspective, we have a lot of conviction around senior housing and we know that structurally, we just don't have enough units of seniors' housing.

>> Another high-conviction investment theme for PGIM Real Estate is logistics or industrial properties. A key driver here is the number of warehouses and distribution centers needed around the world to keep up with online purchases.

>> There's more and more things being done. In these warehouses, they used to be maybe much more entirely distribution. But now you see even food preparation, ghost kitchens taking place in these industrial buildings, and even in some cases, light manufacturing, like in some of our assets in Mexico near the border. So between the continued adoption of e-commerce and changes in the global supply chain prompted by pandemic and by that I mean themes around nearshoring and friendshoring, which is really the dynamic that has just skyrocketed in Mexico along the border in industrial assets and made that one of really the most appealing risk return dynamics that we see around the world. We feel very strongly that these trends are going to continue. And that's a global trend that infill what we call last-mile logistics, that those sites are so hard to come by and so needed by the Amazons and FedExes and the UPSes of the world.

>> A third investment theme is global data centers. Demand in this sector has continued to grow at a very rapid pace and exceed supply because of the long lead times for development.

>> We've been investing in data centers for a little over 10 years. And in our first foray into data centers, we were talking about Netflix and how, you know, streaming services were really what was going to be behind the growth in data centers. And that has clearly evolved because many of us are working from home from time to time and now we have the evolution of artificial intelligence. And all of that is happening in data centers. And so the amount of data that is out there just keeps growing. The fact that cloud computing is just becoming really table stakes for most companies to have a cloud computing capability. And we know that there are not enough data centers to support this growth.

>> As cities continue to evolve, what can they do to attract more businesses and more residents and to ultimately be more competitive? One area is climate risk.

>> I think that particularly around sustainability and climate, that there are cities that have really done a great job of trying to make sure that they're building in the resilience from a climate and sustainability perspective that makes people feel confident to make investments there. A really good example of that would be Singapore, which really kind of changed their building codes so that buildings are built up in order to deal with flooding issues and other climate change issues so that as an investor, as a developer, you feel like the city is on your side and trying to make your investment as resilient as possible. And there are many other cities that have done similar type things with their building codes, which is a very positive thing. And not just for the environment, but for the investment community as well.

>> When it comes to climate risk, cities are at the front line of dealing with heat and water-related damages.

>> By having stronger policies, we've pushed away from water-related building. Miami was at the top of my list of 50 cities that have done well. Clearly, that's not what we're following. And the allure of Miami is strong and people are moving there. But it seems like a city that is unbelievably at risk from this. Given how America works, I would suspect that we're going to deal with this not by abandoning Miami, but by spending an unbelievably vast amount of money on various technologies that will protect Miami. So think seawalls or whatever else the Dutch have come up with that are sort of really smart for dealing with water. The same thing will be true for most of America's cities that are close to major waterways. Heat will be less clear, but I suspect the primary mechanism for dealing with heat is going to continue to be air conditioning. But the bigger challenge for me is heat and water in the developing world, where a city like Manila, a city like Jakarta, they face the same water risk, they face heat risk, and they do so with a tiny fraction of the resources that the US has. And for me, at least, that's the big agenda going forward that I don't fully know the answer to. I mean, some part of it is about smart building technology. Some part of it is trying desperately to get people not to move into flood zones. But it's hard. People want to live in the city. And if the alternative is rural poverty, they'll take enormous risks. This is how our own cities were built 200 years ago as well. So figuring out what you can actually do in a world of limited state capacity is in some sense a big challenge ahead on climate change in cities in the developing world.

>> Climate risks are real and measurable. But there are also opportunities related to climate and sustainability, and that includes real estate investing opportunities.

>> We think that that is a huge investment opportunity, particularly in parts of Europe, in the office markets where the office stock is quite old and there are some real opportunities to upgrade from an ESG perspective. So examples of things that you can do is replacing old mechanical equipment, putting solar on the roof, especially in our industrial logistics assets. They're big flat roofs. They're just perfect for solar. Encouraging people to bike to work, having bike rooms, and even some higher-end office buildings or apartment buildings will have an in-house bike repair shop. All these things that help people to make that kind of a choice. To have indoor air quality improvements, there are lots and lots of studies around wellness of workers, wellness of tenants, so many things that are leading to sustainability and wellness that ultimately make your building more attractive to tenants. The more attractive your building is to tenants, then your income is higher, and the more attractive it is to investors.

>> For city leaders, it isn't always clear how to identify the most suitable initiatives to implement, whether that's in terms of climate or other risks. Ed Glaeser highlights an interesting option.

>> So something like the Congressional Budget Office, which has real expertise, you can imagine is sort of a pro bono consulting service for cities and towns that actually enables them to make better decisions about policies, particularly those related to land use controls. That would be something I would like to see, but that's a tiny cost and something that could be used by all levels of government, not just by particular cities. Cities aren't going to solve their housing crisis on their own. There's very little incentive for suburban bedroom enclaves to make it a lot easier to build. After all, for most homeowners, more affordable housing is the last thing in the world they want. What they want is housing that rises in value.

>> Going forward, can we identify which cities in particular will be the ones to watch?

>> In the US, rarely is the difference across cities about urban management. It's much more about the tides that are moving everything along. So you could say, boy, these Sun Belt cities look like they're at the top of the game. They must be the ones to watch. And we sure as heck don't want to see what's happening in the older, colder cities of America. That actually doesn't necessarily mean that the Sun Belt cities are all that better managed than the cities of the north. It just means they've got history at their back and the north has history at the front and, you know, it depends on where those winds are pushing. Columbus is a really exciting sort of mid-sized town. It manages to sort of act like a Sun Belt city even though it's northern. A lot of that has to do with the very positive impact of the Columbus Partnership, which is an alliance of business leaders in the city who come together and sort of solve problems or provide resources. They become a source of public capacity when the city doesn't itself have it. I have a mantra in city government, which is that capacity is more important than policy, which means most of the time that the problem is not that the mayor doesn't have any clever ideas, but the mayor has nowhere near enough personnel to actually do anything that they want to get done.

>> This capacity issue is a key difference between government and business. While it's easy to suggest that the public sector should run as efficiently as the private sector, this ignores an important reality.

>> It's much harder for city governments to staff up when they have a crisis, and it's much harder for them to provide good financial incentives to get good things out of the workers, and it's very hard for them to fire workers when the workers are underperforming. All this makes it very hard for cities to adapt.

>> Cities will always face some headwinds, but there are good reasons to be optimistic about the future.

>> I do think that the trends are tremendously positive. The biggest challenge now in most of our cities is housing. If we want to have the country or countries that we desire, we should be investing both as individuals and as the business community.

>> Whatever challenges cities face in the future, adapting and evolving will help them to not only survive but to thrive. Thanks to our experts -- Ed Glaeser, Jeff Speck, and Cathy Marcus -- for their insights into the evolution of cities. The Outthinking Investor is a podcast from PGIM. Follow, subscribe, and if you like what you hear, go ahead and give us a review. If you enjoyed this episode and want to hear more from PGIM, tune into our new podcast, Speaking of Alternatives, hosted by Eric Adler, President and CEO of PGIM Private Alternatives. See the link in the show notes for more information.