Why are large cities more productive than smaller cities? And why isn’t this as true in Britain?
The two questions will (or at least, should) be on the mind of Michael Gove, the Secretary of State for Levelling Up.
Economists give a range of answers for the first question. It may be a simple matter of human capital. The smartest graduates are drawn to the bright lights of the big city.
There’s also the idea of knowledge spillovers. If you are a programmer in a big city, you will probably end up going to the pub with other programmers from other companies after work. At these informal meetings, new information and ideas about working practices is spread. Likewise, you may jump around from company to company. Solutions move from one company to another. Businesses become more productive.
In recent years, economists have paid significant attention to the latter factor. For example, economists have studied how a new factory owned by a multinational corporation opening raises productivity levels for nearby manufacturers and found large benefits.
A new study looks at a different, and under-appreciated, factor: matching.
Cities allow for deeper specialisation and make it easier for workers to find the best possible job for them. There are a range of reasons for this. For instance, if there are only two employers who are hiring data scientists in town, then a data scientist might be reluctant to move from one employer to another, lest it be a bad match. By contrast, in somewhere like London, they can move between jobs with confidence knowing there is a large pool of employers to choose from so they can find the best possible match.
This new study looks at matching and productivity in German cities across a range of professions.
In large cities such as Hamburg, the most productive workers within a profession work for the best firms within that industry. While in smaller cities, the distribution of talent across businesses looks rather random. The best architects work for the best architectural practices in large cities, but that’s far from guaranteed in smaller cities.
This within-city matching between the best workers and best firms has major implications for productivity and regional inequality. If matching in local labour markets had not improved in the largest cities over the past 30 years, then geographical wage differences would be around 2.5% smaller, but aggregate earnings would be €31bn a year lower. In short, this wouldn’t be levelling up.
What are the implications for policy?
The authors note that if you want to ‘level up’ smaller cities by incentivising the best employers from big cities to relocate (i.e. using targeted regional tax breaks) then this will likely negatively affect productivity as we lose the benefits of better matching.
There may be lessons for remote work. If knowledge spillovers between nearby firms drive productivity differences then a shift to remote work may have disastrous impacts on productivity. However, if matching between workers and businesses plays an equally important role then there could be big productivity gains from better worker-employer matching.
The authors suggest that one approach to helping under-performing small towns and cities would be to improve job-matching in those places. This might involve the creation of new job-market institutions such as new learning platforms – no easy feat.
In the UK’s case, the solution may be simpler. Our problem is less that small cities underperform big cities, but rather that our big cities (Manchester, Birmingham, Leeds, Sheffield, Bristol, Newcastle, Nottingham, Liverpool and Glasgow) outside London often function as if they were small cities.
Recent research from the Centre for Cities lays out the problem clearly.
Urban public transport commutes to European city centres are easier and faster than in the UK. Approximately, 67 per cent of people in big European cities can reach their city centre by public transport within 30 minutes, compared to only 40 per cent of the people in Britain’s big cities.
Poor urban transport limits people’s job opportunities and effectively makes our largest cities much smaller than European competitors. This negatively impacts the productivity and economic performance of big cities, costing the UK economy more than £23.1 billion per year.
But the problem isn’t just our public transport infrastructure, it’s also our inability to build houses near it. This makes our commutes longer, creates congestion on our roads contributing to air pollution and climate change, and as a result new investments in public transport deliver less bang for their buck.
If we can fix that by allowing more mid-rise development and suburban intensification around transport, then more workers can feel the productivity benefits of being in a large labour market.
If you are interested in this policy area and want to learn more about what we’re doing in this space, get in touch with Aria.