The commercial real-estate market is tanking with vacancy rates approaching 20 percent, observes high-tech consultant George Sibble. This is a problem for all of us, he warns, for two reasons.
First, he says, the defaults that are likely to result from this will be much greater than the defaults that caused the 2008 financial crisis. Second, cities depend heavily on commercial real estate for tax revenues. Despite his arguments, I believe this is more of an opportunity than a serious problem.
To raise alarm about the commercial market, Sibble compares two numbers that have little to do with one another. On one hand, he says, in 2008 the financial crisis “was caused by about $90 billion in houses defaulting.” On the other hand, he continues, “The entire commercial office space market is $3.2 trillion,” so therefore the threat must be greater.
But the entire commercial office market is not going to default. What he doesn’t say is that, in 2008, the housing market was worth more than $20 trillion, almost seven times as much as the commercial office market today. More importantly, Sibble, like most people, doesn’t understand why the 2008 financial crisis was so bad.
The crisis didn’t happen because bankers had packaged mortgages into bonds, as Sibble suggests. Nor did it happen because of defaults on those mortgages, which Sibble effectively admits were relatively few ($90 billion is less than half a percent of $20 trillion). Instead, the crisis was due to bank reserve requirements.
A bank owning an AAA bond needed to keep 1.6 percent in cash as a reserve against the bonds. If the bonds were downgraded below AA, that reserve requirement would rise to 8 percent or more. This meant that, when bonds were downgraded, some banks that had held onto mortgage bonds had to come up with billions of dollars in cash overnight to hold against the bonds. When Lehman Brothers was unable to do that, it failed, and when bigger banks such as CitiBank were unable to do it, the feds stepped in to prevent the failure of those considered “too big to fail.”
Nothing like this is likely to happen this time. The bond ratings agencies have learned their lesson and probably haven’t rated commercial mortgage bonds too high. The banks have learned their lesson and probably haven’t held on to billions of dollars of commercial mortgage bonds.
Nor do I find the tax argument scary for a simple reason: some areas, mainly certain downtowns, are being harder hit than others. Taxes may be a problem for older, denser cities such as San Francisco, Boston, and Philadelphia. But they aren’t going to be a problem for younger, low-density cities such as Salt Lake, Albuquerque, and San Diego, all of whose downtowns are thriving today. I’ve been arguing for years that density is a vice, not a virtue, and perhaps this reckoning will convince politicians to stop subsidizing such density with downtown-oriented rail transit systems, tax-increment financing, and other costly programs.
Finally, I don’t find Sibble’s article persuasive because the chart that accompanies it is deceptive. It shows vacancy rates going from almost zero at the end of 2019 to very high at the beginning of 2023. But a close look reveals that “almost zero” is actually 12.5 percent and “very high” is only 18.5 percent. Vacancy rates have gone up by just 6 percentage points!
A lot of that 6 percent may be concentrated in a few cities such as San Francisco, which is clearly having problems not just with commercial real estate but also hotels. San Francisco is the second-densest major city in America after New York, and maybe it is time for it to lose some of that density. That’s not really a crisis. That’s just an adjustment to the 21st century.
Before I was waiting for a chance to write this. Point is like 2008 crisis was partly caused by rampant corrupt entity whom wished cash out by trying artificially value real estate by restricted availability of useful land to build. The commercial real estate sector and high focus luxury residency industry aka skyscraper makers already had shortage land available. They created their own price bubble by conveying downtown areas as inherently valuable to business and upper echelon clients.
And the local governments got tax revenue off this….. what they failed to do was make surrounding city desirable or clean. As long as downtown rents and business districts consolidate most city tax revenue the rest of it could rot.
This mindset manifestation is EXACTLY what happened to New York and San Francisco.
And it was tolerable til business types decided it wasn’t worth stepping in not dog but human shit 3x in 30 minutes wasn’t worth commute.
Major Cities thru human history were always undesirable places to “Live”. With advent of photography and philanthropic class the City Beautiful movement of 19th early 20th century.
That era is over. In discussion forum Architecture HereandThere David Brussat envisons Rebuilding New Yorks historic Penn Station. To whichnI constantly remind, it a fuking waste of time.
Comtinued..Continued…
Any case commercial real estate development sought its own market creating its own bubble. Office space at 1000 Square foot was no longer viable. The skyscraper is obsolete. Long before remote work the Suburban office park offered fraction price with same capabilities.
Market saturated with too much office space at price no startup company could endeavor to afford.
Warehouses, campuses and even historic buildings with little use were more flexible than a skyscraper floor plan. Also offered access to restaurants, vibrant locals, open spaces. High rises could not…..
Cubicle replaced by the open floor plan….
In any case high rise is a dinosaur. Like dinosaur and pleistocene mammals…organisms reach their peak large size upon a ecological niche can sustain before environmental changes coerce their extinction.
The Housing crash was caused by speculators/advocates demanding that banks/lenders give more loans to people with no credit/financial means so when the real estate bubble burst the zero down they were promised meant they PAID NOTHING on a home; if banks received nothing; while surrendering assets away to people with no cash; they look stupid. The second participants were the federal government who created the laws and the loopholes but also because they made banks and lending institution lend to unqualified people including people of color at the behest of public advocates who argued banks were racist. Like Maxine Waters that forced the banks to start making subprime loans through the CRA.
That’s why the big banks will never be prosecuted despite what political candidates promise…their ultimate prosecutorial defense would be to point out what govt either made them do or said was “Legal”
The commercial real estate crash was caused by the jig being up as local governments stopped caring about quality of life crime, disheveled attitudes. And Social justice groups painted police as racist systemic murderers but failed to recall Police Have to Be CALLED. In any case they ramped up social hatred and turned blind eye to black on black crime. As those neighborhoods poured out crime poured new areas. But it didn’t matter once local governments stopped caring about about narcotics consumption and distribution the damage was done, and no one willing report when people assaulted and murdered or raped; Cops neutered crime rose out of control. Small Businesses, tourism collapsed but was inconsequential as big business was all financially necessary to keep local government funded. When workers realized they didn’t want to stroll thru sidewalk of needles and shit, or slashed by knife wielding junkie or pushed onto railroad tracks by strung out freak arrested 20 times before. Companies locked up and left.
When government who runs your city, have a political motivation to pander to people who’re dysfunctional, poorly behaved, engage in lewd or self destructive acts, their policies do nothing but foster more dysfunctionality, poor behavior and lewd acts and disavowing self respect and personal dignity.
Once self respect and personal dignity are gone which can be obliterated quickly it takes years to build it back. Then your cities problems of the consequences of people who have zero dignity and self respect……only continue to get worse. If you subsidize a culture of degeneracy and debasement, you make it attractive for more people. If you turn a blind eye to ejaculating on a train or shitting on the sidewalk or shooting up heroin on the streets, don’t be surprised if people start ejaculating on a train or shitting on sidewalks or shooting up or picking fights. YOU’RE GOING TO GET MORE OF IT.
We cant subsidize homelessness, especially the kind we have now, the self inflicted byproduct of drug abuse, addiction, mental health and just plain immaturity.
“But a close look reveals that “almost zero” is actually 12.5 percent and “very high” is only 18.5 percent. Vacancy rates have gone up by just 6 percent!”
I would have said, “6 percentage points.” But what do I know?
I agree that 18.5% is not the end of the world, but the correct math is that vacancies have increased by almost 50% during that time period. 6% is 48% of 12.5%
So calling it a mere 6% increase is not being accurate. A 48% increase in something bad (vacancies) is pretty significant.
rovingbroker,
You’re right. I changed it.