Why do innovative businesses tend to “cluster” together in tech hubs like Silicon Valley? Why do these companies stay in these expensive cities when they could go to another city with significantly cheaper costs? Can these tech hubs be better governed? And how might other cities catch up? To explore these questions, I am delighted to speak with Enrico Moretti.

Enrico Moretti is the Michael Peevey and Donald Vial Professor of Economics at Berkeley. He is also an associate with NBER, a fellow for the Centre of Economic Policy Research and the Institute for the Study of Labor, and the editor-in-chief of the Journal of Economic Perspectives. His 2012 book, The New Geography of Jobs, brought to light much of the data showing that high-tech industries tend to cluster together in small areas, and he has repeatedly returned to this subject in his academic work since then, including in his new paper, “The Effect of High-Tech Clusters on the Productivity of Top Inventors.”

Below is an abbreviated transcript of our conversation. You can read our full discussion here. You can also subscribe to my podcast on iTunes or Stitcher, or download the podcast on Ricochet.

Pethokoukis: Tech-hubs are increasingly important for growth, yet many cities like San Francisco seem poorly managed. For instance, why are housing costs such a big issue in many of these cities?

Moretti: I think this is mostly due to policy decisions. These
cities are incredibly opposed to new housing. And that’s a major drag on the
overall growth of the sector, but also on overall US economic growth.

The boom towns of today are much more supply-constrained
than the similar areas in the 50s and 60s, because nearly all of the
highly-educated workforce goes there, but then the cities failed to add enough
housing within their boundaries. This means that the average family finds it
much harder to find affordable housing if they want to move there. A lot of the
benefits of the incredible economic dynamism in these areas are captured by
incumbent landlords who were lucky enough to have bought land before the
current boom.

Are there any cities
that serve as positive models when it comes to housing policy?

One less-than-optimal solution is what Austin is doing: implementing
very few housing constraints. Anyone can build anywhere — it’s largely
unconstrained growth. I think this is positive for housing prices, which are lower
than in San Francisco. But by allowing growth everywhere in the region, they’re
also adding some negative side-effects such as traffic congestion.

Seattle has struck a better balance. The city has been pretty
pro-growth. It has traditionally had a much less political housing entitlement
process than a place like San Francisco. So developers that want to build are more
shielded from the endless series of appeals.

At the same time, Seattle has been successful at concentrating much of the growth in parts of the city that are near downtown that were totally underutilized 20 years ago while successfully limiting sprawl on the outskirts. I don’t think that Seattle is perfect — cost of living has increased significantly in Seattle, but by less than it would have increased had it not been for a pro-growth housing policy.

If housing reforms
are not enacted, and these cities continue to get more expensive, do you think
we are approaching a tipping point where workers and entrepreneurs decide to
move to smaller cities?

Up to this point, we don’t see that happening on a large
scale.

In some of my work, I look at the productivity differences
that workers in the innovation sector exhibit in different cities. What you see
is that these star cities, yes, cost way more. That’s to a firm — in terms of
labor costs, in terms of real estate costs. But the productivity advantages are
still larger than the costs.

So it’s still a good deal for an employer, especially those that hire a lot of PhD’s in the sciences and focus on new technologies. What you see is some evidence of outsourcing or opening of new offices in other cities for parts of these firms that aren’t crucial. These auxiliary offices are for HR or customer service, not the engineers or scientists.

Don’t get me wrong, those are all great jobs, so it’s great
for cities to have them. But at this point, the productivity advantages of
being in these innovation centers still outweigh the costs.

How successful have
governments across the United States been in creating their own tech-hubs?

I am skeptical that it’s something you can engineer, top
down. If you look at the history of the innovation hubs in the US it’s hard to
find examples where an innovation hub was explicitly created by a deliberate
policy on the part of the county or state saying, “We’re going to create the
next Silicon Valley, there.”

In my reading of the history of the innovation hubs, there
is no example like that. The typical story is much more organic. Typically,
it’s the success of one local company in a new technology sector that then
becomes the seed around which the cluster agglomerates.

Once that city is in place, you start seeing this
self-reinforcing mechanism of increased concentration. But the initial seed in
the US has never been a deliberate policy on the part of local government. It’s
really hard to know which company is the next Microsoft or which company is the
next Amazon. It’s hard for venture capitalists, let alone mayors or governors.

Given that not
everyone is going to abandon their families and communities in order to move to
high-productivity cities, how can we help those who stay put in “left behind”
areas?

I think that one of the best investments that state and
local government can make today is public education. I think there’s a wealth
of evidence that that’s one of the best industrial policies that we can create.

Community colleges are vastly underrated as an important
source of skill upgrading for the local workforce, especially since you cannot
go to a declining community in the Rust Belt and say, “Hey, the only solution
is to go to the Bay, Boston, or Seattle.”

Still, by investing in public education, you cannot expect it
to turn around next year. These are long-term economic strategies. But the
overwhelming evidence is that one dollar spent in schooling for the local labor
force and students has an aggregate return much higher than one dollar for that
community in the long run. And that’s one of the best investments that local
communities can make.

The return is much higher than investing in roads, bridges,
or rail. It’s higher than the return that can be made in other forms of public
spending. Does that guarantee the mayor that if they invest in the local
community college, or their high school, or lower-level schooling, that they’re
going to get the next Silicon Valley in their jurisdiction? No, absolutely not.
It does guarantee, though, that the investment will eventually turn into
better-paying jobs in the long run.

And it’s not as though every community needs to copy the Silicon Valley blueprint. The Silicon Valley industry mix is unique, and it’s not necessarily the best recipe for every single community. There are communities that might have a local industrial employer, and maybe the solution is to work with the community college to make sure that whatever skill the local employer uses can be provided by the college. That’s using the built-in strength of that specific community.

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