The silver lining of the real estate bust

According to the Washington Post, development has come to a halt downtown. This phenomenon is not unique to our region. Nearly any real estate project not financed before September is now frozen. While a dearth of new construction could hurt municipal budgets, it also has a large potential upside. As a nation, we now have the opportunity to plan and focus our growth, in preparation for the time when expansionary economic conditions resume.

In “A Request For Proposals Isn’t a Plan”, Richard Layman discusses the causes and implications of the way the DC government handled projects around the city, such as Poplar Point. Last month, Clark Realty Capital withdrew from developing Poplar Point. The company cited the changing economic conditions as a cause of its reason to back away from its involvement with the project. In his Washington Post column entitled “Southeast D.C. Project Asked Too Much of the Private Sector”, Richard Roger Lewis describes the deal’s unusual characteristics:

[T]he boldest element was a very expensive piece of infrastructure: a three-block-long deck spanning Interstate 295 to visually and functionally unite historic Anacostia and a redeveloped Poplar Point.

Last month, Clark announced that it was dropping out. A year of dreadful market and economic conditions made the company want to change the terms of the deal. It reportedly asked the District to take on the front-end financial obligations and risks as an investment partner, with Clark to receive a fee as development manager. The District declined. Although Clark’s decision to drop out surprised many, it was inevitable.

The company’s withdrawal illuminates the fallacies of the District’s Poplar Point strategy. Given the economic climate, the developer was asked to predict, promise and risk too much. It was unrealistic to demand a visionary program and plan whose feasibility was questionable from the outset and then expect the developer to provide all the financing.

We kept hearing for thirty years that the private sector always works better than government. Our experience with our economy these past few months has reminded us of why we have government. The private sector does a very good job with specific things. Government does other things better. Infrastructure has always been government’s responsibility because we need infrastructure for a functioning civilization, but it almost always loses money. No rational business would build a deck over I-295 in Anacostia on its own. Businesses need to generate profits, or else they cease to exist.

Private developers would only take on the volume of risk associated with the infrastructure and planning costs of the failed Poplar Point project if the project also carried an extremely lucrative potential reward. The now-popped credit and housing bubble greatly skewed the risk-reward relationship of such a project. Because creditors were essentially begging customers to borrow money, a business could borrow as much as necessary to fund a mega-project. Creditors would overlook such high sunk costs as constructing a deck over I-295 and a 70-acre mega-park. Also, since land values and commercial rents were inflating, a developer would believe that the revenue from sales and rents would more than make up for the infrastructural sunk costs.

Such a business model was wildly optimistic, even under the conditions of the bubble. It was also wildly optimistic on the part of the Mayor’s office to believe that any private developer could take on such large risks. Instead, as both Layman and Lewis suggest, the city should construct a long-term plan similar to Pierre L’Enfant’s. They should devise a for a street grid, mixed-use zoning, sewers, pedestrian connections to the Metro, a possible deck over I-295, and parks, before bidding out any projects.

In fact, the plan should encourage different developers to bid on land and projects, building by building and parcel by parcel. That’s how urban development happened before mid-20th century “urban renewal” introduced the idea of the mega-development. Rather than developing Poplar Point all at once by a single developer, the a wide array of builders should develop it block by block. That way, if one builder encounters financial difficulties, the whole project doesn’t come to a halt.

Once the new neighborhood is fully constructed, if one parcel becomes vacant, it will not be as much of a fiscal strain on the whole neighborhood. A vacancy puts fiscal strain on the landlord due to lost rent. If one real estate company owns an entire neighborhood, one vacancy indirectly puts strain all other tenants. Or worse yet, what if the landlord company goes out of business? What happens then? A single landlord for an entire neighborhood also diminishes the diversity of real estate products, and consequently on the diversity of residents and businesses.

Nationwide, we’ve become accustomed to the suburban model of development that we start to see it as the only way to construct our built environment. In a car-dependent environment, a developer buys a huge tract of land and then constructs a subdivision, a strip mall or enclosed mall, an office park, or another large single use. Their footprint, including parking lost, occupies about the same land area as an urban neighborhood. Consequently, developers and governments continue thinking on the same footprint scale even as we returned to developing and redeveloping walkable urban places throughout this decade. However, the failed Poplar Point project has shown us the danger of turning over the future of such a large tract to a single company.

We would be wise to learn from successful urban planning of the past, such as the L’Enfant plan that created Washington. We need to plan for an economic environment where the mega-project is no longer desirable or feasible. It will take many years until the banks work through their bad debts and are willing to provide credit for real estate projects again. We should use this time to plan to direct the future pent-up housing demand into carbon-neutral walkable human-scale street-grid transit-oriented places. Our descendants will thank us.