Missing the point on what matters to real estate developers and financiers and local vs. federal Washington, DC

Marc Fisher misses the point big time in his piece in today's Post, "How scandal-plagued D.C. is attracting investment dollars worldwide," about the commercial real estate economy in DC vis-a-vis the Keystone Cops nature of local government. From the article:

Oil-rich gulf states, German investment partnerships, Canadian pension funds — the foreign investors who visit real estate adviser Joel Coren uniformly savor the District’s growing population, increasing affluence and relatively stable jobs picture. Scandal and dysfunction in the D.C. government never even come up: “It’s funny,” said Coren, who opened a Washington office for Savills, a global real estate firm. “When we’re educating our clients about how far D.C. has come in a very short amount of time, the city government just doesn’t factor into it. Politics is really not essential.”

Here's why relying on statements from Mr. Coren is a bad idea.

First, the real estate market in the central business district (which isn't just downtown, but includes other areas which revolve around the federal presence in the city) is a national-international market, even if it has strong regional players like JBG or Akridge. Even the locals rely on national/international financing. (See the argument in this blog entry from 2007, "Avoiding the real issues with DC's property tax assessment methodologies.")

Second, in this context, investment in DC is judged vis-a-vis other international markets. Because of the federal presence--the fact that the national government is located here and the bulk of non-military operations are located in the DC metropolitan area--the commercial real estate market is steady, because government tends to expand, not contract.

So on an international basis, this makes DC one of the strongest markets in the world. E.g., have you read the papers about Europe lately, or the overbuilt Chinese market, or Dubai's real estate crash? etc.

Until recently anyway. As I mentioned yesterday, the Wall Street Journal reports in "Washington's Office Market Dials Back," that the commercial real estate market here is starting to contract because given the current political situation, contraction is a real possibility. E.g., two million square feet of federal office space that was planned for leasing is not being leased, because of changes in political conditions.

Third, because DC is a national-international real estate market, so long as the local political conditions aren't too f***ed up, actors will continue to invest, because the functioning of local government isn't a factor in the valuation of property and the willingness to invest in an international context--provided that the local political and economic actors are committed to a pro-Growth pro-real estate development agenda, and the government is functioning on the basics in terms of the provision of public services (cf. places like Harrisburg, PA, Central Falls, Rhode Island, Vallejo, California, Jefferson County, Alabama, etc.).

Again, this is merely yet another application of the Molotch Growth Machine thesis:

A city and, more generally, any locality, is conceived as the areal expression of the interests of some land-based elite. Such an elite is seen to profit through the increasing intensification of the land use of the area in which its members hold a common interest. An elite competes with other land-based elites in an effort to have growth-inducing resources invested within its own area as opposed to that of another. Governmental authority, at the local and nonlocal levels, is utilized to assist in achieving this growth at the expense of competing localities. Conditions of community life are largely a consequence of the social, economic, and political forces embodied in this growth machine.

Fourth, local political functioning matters to national-international real estate actors on three dimensions: (1) the provision of municipal services, such as public safety and crime, maintenance of roads, trash pickup, etc.; (2) the economic viability of the local government (which is why ratings by bond firms matter, but DC is helped by the fact that it collects and keeps all of its income taxes); and (3) the level of predictability and corruption in real estate development and building regulation specifically.

Under Marion Barry, eventually the failure in the ability of the local government to provide the most basic provision of services and especially the rise in crime became so pronounced, along with the failure of the local government to manage its finances, meant that even if corruption and self-dealing wasn't much of a factor for real estate development, the commercial real estate market had to tank, because it was risky investing in DC when the local situation was so negative and unpredictable.

Today, municipal services are provided--even if to wonks like me they fail on many respects in terms of best practices, the murder rate is dropping (although columnists like Harry Jaffe believe that other crimes are increasing, see "Dropping homicide rate masks deadly streets in D.C." from the Examiner), people think schools are improving ("Survey: Parents, students happier with D.C. schools" from the Examiner) even if I don't, etc.--so the steering of various local contracts, corruption in elections, absconding with money, getting offered piddly bribes (Jim Graham), converting public funds into private use (Harry Thomas Jr.) doesn't really matter.

cf. my op-ed article from 2003 in the Philadelphia Daily News comparing DC to Philadelphia and the lessons for Philadelphia.

What does matter, providing that local government is functional, is if the federal government shrinks.

Then, if the provision of local services continues to degrade, and the quality of local political management continues to degrade, it's very much possible that more business and real estate development will re-locate to Virginia in particular.

Virginia real estate interests are already trying to get the big law firms to rightsize their office use comparable to how the NYC-based financial firms have divided up their organizations into "front office" and "back office" functions, relocating the back office functions to places like Jersey City, NJ, which is booming.

And the extension of the Metro subway system to Fairfax and Loudoun Counties will help to reposition Tysons Corner and Reston as primary locations for "federally-related" business location.

Not to mention the continued efforts of Senators and Representatives from Virginia and Maryland to get federal agencies to locate in their jurisdictions, even if that means leaving DC.

So DC can't rest on its laurels as it relates to the commercial real estate market.

Eventually, low functioning of our local government and political elite can have negative effects, but it is dependent more on the function of the federal government's demand for commercial space, and how competitive the submarkets in DC, Virginia, and Maryland will get with each other to get whatever business that's out there.

My lesson from the 1998 Mayoral election: Anthony Williams won, and Marion Barry was no longer key to the political functioning of the city

The biggest thing that residents, especially neighborhood activists, failed to realize with the election of Anthony Williams in 1998 is how much the real estate development climate would change from removing Marion Barry as the major player in local government and the re-righting of the dysfunctional municipal government toward a system that functioned, with a smaller number of employees.

Marion Barry, the number of city employees, and the failure of the local government to provide the most basic services, plus the escalating murder rate were the major issues in the late 1980s and throughout the 1990s, coinciding ("coincidence?") with the period when DC's real estate market ABSOLUTELY SUCKED.

From 1988 to about 2000 the market was moribund, except for federally-related development, including space for law firms and trade associations.

Arlington County and Alexandria significantly picked off associations and government agencies (e.g., the National Science Foundation moved to Arlington) because organizations didn't want to be located in DC. All they had to do was pick up the phone (aided of course by the proximity to the Pentagon).

The velocity of change took awhile to develop, but then it went into hyperdrive, which accounts for the state of real estate development in the city from about 2000 to 2008, and even today, the city's comparative strength vis-a-vis other markets nationally and internationally, as well funded actors like Brookfield and Equity Residential have bought properties at great prices from banks needing to get problem loans off their books because of concerns expressed by bank examiners or developers who lost their funding (e.g., the failure of Lehman Brothers) needing to sell to reduce debt.

Foreclosed properties like the apartments at the southeast corner of 4th and Massachusetts Avenue NW are thriving under the ownership of Equity Residential, which is doing so well it acquired property and will be building another complex not even one block away. Etc.

The question is how resilient is the city and the real estate market in the face of local political dysfunction and the threat of federal government downsizing.

Only time will tell.

But I am worrying...