Are cities really the heart of Australia’s economy?

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By Leith van Onselen

The Grattan Institute has published a new report entitled Mapping Australia’s economy: cities as engines of prosperity, which maps the Australian economy by the location of economic activity, defined as the dollar value of goods and services produced by workers within a particular area.

The Grattan Institute argues that a “great reshaping of Australia’s economic geography is underway”, whereby “the nation has moved from prosperity coming from regional jobs in primary industry a century ago, to suburban jobs in manufacturing after World War Two, to city centre jobs in knowledge-intensive businesses today”.

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The report finds that the lion’s share of economic activity takes place in Australia’s cities, whereby “eighty per cent of the value of all goods and services produced in Australia is generated on just 0.2 per cent of the nation’s land mass – mostly in cities”:

Today, cities are the engines of economic prosperity…

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The intense economic contribution of CBDs occurs partly because of the concentration of jobs in these areas. But CBD businesses are also much more productive on average than those in other areas. Inner city areas and secondary commercial hubs, such as those around large cities’ airports, also tend to be more productive than other locations. For example, in 2011-12 the Sydney CBD produced $64.1 billion worth of goods and services: about $100 for every hour worked there. Employing only 13 per cent of Sydney’s workforce, this small area generates almost a quarter of the value of the Greater Sydney economy…

The combined central business districts of Sydney and Melbourne alone – 7.1 square kilometres – generate nearly 10 per cent of the value of goods and services produced in all of Australia, three times that produced by the agricultural sector.

And according to Grattan, the Australian economy doesn’t need to make things anymore:

Today the Australian economy is no longer driven by what we make – the extraction and production of physical goods – but rather by what we know and do…

Australia’s cities are the backbone of our economy, with CBDs and inner city areas critically important to the nation’s prosperity. Their predominance reflects the economy’s evolution from one based on primary industry, then manufacturing, then increasingly knowledge-intensive services.

Grattan also seems concerned by the level of sprawl in Australia’s cities, which is making it harder for citizens to access cushy CBD jobs:

If current settings remain unchanged, Australian cities are likely to continue to spread outwards, further increasing the distance between where many people live and the most productive parts of large cities, with implications for both productivity and opportunity.

Thankfully, however, the report doesn’t explicitly recommend greater urban consolidation, although implicitly it does seem to make such a case:

Governments need to understand and respond to our economy’s spatial dimension, including by:

1. Enabling people to choose to live in areas with access to large numbers of jobs, thereby also giving employers a wide choice of employees.

2. Ensuring transport networks better connect employees with employers, and support connections between businesses and their customers, suppliers and partners.

3. Minimising barriers to highly productive activity in CBDs and inner city areas. These include land availability, traffic congestion and public transport access.

While the Grattan Institute has done a good job mapping economic activity across Australia, I believe it has failed to understand the underlying drivers of Australia’s city-centric economic structure and whether it is desirable. In effect, Grattan has focused on the quantity and distribution of growth in economic activity, rather than the quality and sustainability of that growth.

For example, that Australia’s cities – particularly Sydney and Melbourne – contribute the largest shares of economic activity is unsurprising given they are also home to Australia’s finance and insurance industries, whose activity has exploded on the back of Australia’s record high mortgage debt and inflated housing market, as well as compulsory superannuation (see below charts).

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The rapid growth in the finance and insurance industries has come about through deliberate government policies, including tax lurks such as negative gearing and capital gains tax concessions, as well as urban consolidation policies, which have inflated land/house values and household debt. Compulsory superannuation has also driven resources to the funds management industry primarily operating out of Sydney and Melbourne. In both cases, economic rents have been transfer to the CBD from elsewhere.

But is this outcome desirable, and should it be celebrated, as Grattan appears to have done? Many, including me, would argue that the financial sector is now far too large and is in fact a parasite that has created structural imbalances and damaged Australia’s longer-run productivity.

Would Australia really be worse-off if the median house price was instead $300,000 rather than $500,000, mortgage debt was 70% of disposable incomes instead of 135%, and the banking sector was smaller and less profitable? In a similar vein, would the nation be worse-off if superannuation concessions had been much smaller and didn’t favour high income earners, and the funds management industry was smaller and less profitable? The answer is obviously no. And yet these types of questions have been completely ignored by Grattan in its city-centric report.

Grattan has also failed to acknowledge that rural and regional areas provide Australia with not only its food, but also the lion’s share of its export revenue, which is effectively what pays for Australia’s imports (consumed mostly by city dwellers):

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As noted by Prosper’s David Collyer today:

Australian Services – the CBD clusters the Grattan Institute is drooling over – are simply not globally competitive…

If Australia’s Services sector had any merit whatsoever, the world would queue up and bang on the doors to buy our wares. They are doing no such thing…

The Grattan Institute has been sold a pup by well-coiffed and expensively groomed city professionals who simply don’t make the grade by international standards. Many of our best educated simply take their skills where the best price is paid and the rest focus on rent-seeking in the FIRE sector…

If the Grattan thinkers wanted to reignite prosperity and national competitiveness, they would look at the cost of land – for Rural, Manufacturing and Services, for business and for workers alike. Inexpensive land de-risks all economic activity. We have been bloody fools to abandon this vital natural advantage to the ticket –clippers.

Precisely. Bigger CBDs mean a less competitive economy and a wider current account – hardly a desirable situation.

I am also concerned that policy makers will embrace the Grattan Institute’s report, and divert even more of the nation’s resources into Australia’s CBDs – precisely the opposite of what Australia should be doing.

Measuring progress based merely on the value of economic activity is not particularly useful. Australia needs a well-diversified, balanced, economy with a wide range of industries. Not an economy increasingly based on ticket-clipping and rent-seeking, whereby the spoils flow to a small group of CBD elites at the expense of everyone else.

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Unconventional Economist
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  1. Precisely right LvO and DC

    Those ‘services’ the Grattan guys seem to be having hot flushes about are the ones being sent to Manila or Chennai or even New Zealand – not that i have a problem with any of these locations or their inhabitants – any chance our FIRE sector gets……

    and underpinning that is the about the worlds most ludicrously priced residential real estate.

  2. Grattan “. But CBD businesses are also much more productive on average than those in other areas.”

    By what criteria?

    UE….,” In effect, Grattan has focused on the quantity and distribution of growth in economic activity, rather than the quality and sustainability of that growth.”


    UE “Grattan has also failed to acknowledge that rural and regional areas provide Australia with not only its food, but also the lion’s share of its export revenue, which is effectively what pays for Australia’s imports (consumed mostly by city dwellers):”

    Exbloodyactly! Indeed the whole stupid Sydney/Melbourne Lawyers/Insurance/RE axis is built on selling the rest of the nation off to foreigners in order to sustain the unsustainable.

    This tripe is so damned typical of modern economics. It’s no doubt what the RBA, Treasury and all the Banks believe. Whether that belief is based on sifting anything you don’t want to see so you can get the outcome you want/need is another question.

    • Exactly, Leith’s article is excellent. I don’t need to do my usual rant on the subject.

      I think it is dangerous analysis that is telling us that Wall Street is “the most productive sector” in the United States, which is what the whole famous thesis from Richard Florida etc on density and urban planning is all about, and that has swept the world of urban planning like a destructive wildfire.

      Ed Glaeser is someone who should know better but seems to have sold his soul to the general idea. I actually got to ask him an inconvenient question in front of an audience recently, “why if density = higher productivity, does the UK have a productivity gap in spite of having the highest densities in the OECD, which productivity gap has been fingered as the reason FOR the GAP”? I think his reply was awkward and evasive.

      The first obvious point is that the denser areas in the USA largely evolved while the UK’s density is mandated by planning. It is cargo-cult thinking to assume that the productivity is endogenous to density, period, and that there will be no difference between evolved density and mandated density.

      The second obvious point is, the “productivity” of the denser locations might be based on parasitic and extractive activity that is at the expense of the rest of the economy. Germany has no Wall Street at all and no “London”, and its entire economy is productive.

      Richard Florida, to give credit where it is due, has repudiated “trickle down urbanism” and regretted his role in promoting it.

      • “….,evolved density and mandated density…,,”

        There is indeed a big difference.

        But don’t try and tell that to the town planning fraternity and diverse range of ideologies (from rent seekers to car haters to suburb haters to environmental ideologues) that support their activities.

        The idea of evolving urban environments, within some basic requirements for transport, health, sanitation, safety, and recreation, is anathema to them.

        They love the idea of sitting around and trying to model the perfect future and the perfect built environment for that future and then try and force reality to comply and others to pay the bill for their follies.

      • drsmithyMEMBER

        They love the idea of sitting around and trying to model the perfect future and the perfect built environment for that future and then try and force reality to comply and others to pay the bill for their follies.

        Too much SimCity as children ?

        Or maybe not enough as adults ?

      • Ah Simcity.

        That was a great distraction from dreary tutorial readings.

        That line “reticulating splines” as a new city grid was generated is still stuck in my head.

        I see down in Green Square in Sydney the plan for urban consolidation is coming unstuck.

        Someone should tell those people that congestion and living cheek by jowl is very cosmopolitan. It is what allows there to be a cafe and hip bar on every corner.

        Somewhere in a planet far far away – people get to live in quiet neighbourhoods with endless room for cars and backyards and still be within walking distance of funky cafes that are always open.

        Gotta love the way people feel entitled to sleepy rural village life within 10 minutes of the CBD.

        Balmain now has less than 50% of the population it had in the 1920s but the barricades are ready to go up if anyone suggests allowing apartment blocks each side of Darling Street from Victoria Road to the Wharf.

        Of course if there were fewer restrictions on land usage on the outskirts and in between, there may not be much demand to live in a small 2 bed room unit in Balmain.

  3. I looked at the title and thought, “They are just going to tell us how they think anything is rip-right, and transitioning to a (debt-based, asset-sale based) economy is all awesome and OK”.

    Now, after reading the article, I realise I was right…come launder and be a rentier your money in Australia!

  4. Hugh PavletichMEMBER

    Thank you Leith for a particularly well grounded article … incorporating the sound comments of David Collyer too.

  5. Grattan once did good work but this fails on many levels. Great job UE.

    As soon as I read “…economy is no longer driven by what we make – the extraction and production of physical goods – but rather by what we know and do…’ I know its an apologia for the FIRE sector. This stuff used be published all the time int UK and now they realise it was a mistake.

    • And in the UK they do have a finance sector that is extractive of rent from the GLOBAL economy, not just the national one……. nice work if you can get it.

      But it does not have to be at the expense of other potential avenues to economic growth, and of society generally, as it has been in the UK. The USA has a much better balance; it has its own “London” – in NYC – AND it has dozens of real wealth creating industrial cities. Kinda like a much larger Germany, plus London.

      Australia risks being “the UK without London”……

  6. I agree with the importance of the fact that all the creation of new wealth in the global economy for the last 60 years, has been in cities (and the terms of trade for agricultural exports has fallen around fourfold) but this is everything to do with “Toyota” and “Sony” and “IKEA” and “Microsoft” and NOTHING to do with the b—-y parasites in Wall Street or its equivalents anywhere else.

  7. Australian homes aren’t that nice either, all that orange brick veneer and mission brown tiles, blah

  8. Stephen Morris

    I despair at economists.

    [Although not in this case Mr van Onselen. Let me commend him for the excellent “In = Out” caption on this article which neatly summarises the simplification economists make when assessing the productive capacity of cites.]

    Economists are theologians in modern dress. Like theologians they begin with the required conclusion and then search for premises that will allow them to argue “logically” to that conclusion.

    In the case of the metropolitan spruikers their theology requires them either to ignore economic rent, or to re-define economic rent in such a way that it does not affect their conclusions.

    Thus, they equate incomes to output. Metropolitan theologians such as Ed Glaeser point to the higher incomes of metropolitans and conclude that their production is of greater value. Under this simplistic theory, people move to cities because they are more productive there.

    The absurdity of this may be seen by taking an extreme example: are we asked to believe that Tripoli under the Gaddafi regime was the most productive place in Libya? Or could it just be that there was another factor at work: the presence of the Gaddafi family itself which controlled the disbursement of rents to its favourites?

    In fact this phenomenon has been known to historians (if not economists) for generations. Under monarchies, courtiers had to be at Court in order to ingratiate themselves and gain access to the rents disbursed by the King.

    [In terms of psychology, this is the phenomenon of “presenteeism”, the tendency of human beings to reward more highly individuals who are physically present. See, for example, this article on modern-day presenteeism from The Economist.]

    Going back to our courtiers, they often paid for lavish displays and entertainments for the King (in anticipation of even greater reward) and this expenditure boosted the production of the capital city.

    Thus we see that there are “primary rent-seekers” (the courtiers in this case) and “secondary rent-seekers” (their suppliers) whose incomes are boosted. And beyond that are “tertiary rent-seekers” supplying the secondaries . . . and so on outwards like the ripples on a pond radiating from the “fountainhead of rents”.

    Dictatorships (including monarchies) are extreme examples, but the same phenomenon applies to all centralised government. Thus, in Australia, high incomes do not occur in just any old cities; they occur in the capital cities which are home to the federal, state and territory Cabinets, the fountainheads of rent under the Westminster system of “elective dictatorship”.

    [Note that in the US, under the constitutional separation of Legislature and Executive, populations do not concentrate around political capitals.]

    Thus we can see that cities may exist for two reasons:

    a) agglomeration efficiency (the efficiencies of proximity which really do increase productive capacity); and

    b) rent-seeking efficiency (the efficiency with which city-dwellers collude to exercise rent-seeking power over others).

    Amongst the manifold ways in which rent-seeking cities act to extract rents from the rest of the country are:

    a) disproportionate public expenditure, for example the fact that London receives far and away the highest per capita public spending of any region in England;

    b) state sponsored sport and sporting facilities;

    c) city-centric transport infrastructure policy;

    d) state sponsored high culture; and

    e) fuel taxes, that is distance-based taxes over and above the cost of fuel resources used, out of all proportion to the externalities of fuel usage, and perversely often used to cover the externalities of urban traffic congestion!

    In Australia we might add to that list the factors mentioned by Mr van Onselen, namely government support for the largely Sydney-based funds management and finance industries. (Historically we might have added government support for the largely Melbourne-based manufacturing industries.)

    We might also add business concentration in general which allows metropolitan oligopolies to extract rents.

    Finally we might add the advantage of having well-organised metropolitan propaganda organisations to pump out reports purporting to demonstrate the “superiority” of metropolises!

    • “Finally we might add the advantage of having well-organised metropolitan propaganda organisations to pump out reports purporting to demonstrate the “superiority” of metropolises!”

      Ohhh YES!!!!!!
      (It’s also part of my problem with so-called ‘one vote one value’ concepts but that can be for another day!)

    • Agree, Stephen, that is a good short essay making the point that others of us make in our own ways.

  9. For all his faults Campbell Newman is committed to having 50% of Qld Public servants located outside of the SE corner of Qld in the next five years. That will involve relocating about 50,000 PS north and west in that period. It appears to be happening but slowly. Cando is a little pre-occupied atm.

    What most fail to recognise the absence of quality hispeed regional broadband coverage is the regional killer.

    Having recently spent a couple of weeks travelling over 3000km around FNQ, coverage is still very patchy. The current interim NBN satelite is overloaded must be upgraded asap.

    Murdoch says Telstra mobile coverage is all we need. This patently stupid statement should be called for the outrageous self-interest and BS that it is.

    This is an obvious infrastructure bottleneck strangling regional productivity.

    Fix it Malcolm.