Come bouncing back

Originally published on CityMetric 13 February 2015

Boris Johnson will be banging the drum for the capital with his accustomed panache as he visits Boston and New York this week. That’s not surprising: London has a great story to tell.
But, while we are quick to celebrate London’s gravity-defying recovery from the last recession, we still do not fully understand it. At an LSE London lecture last week, Professor of Human Geography Ian Gordon sought to redress the balance by asking why the capital did not just survive the 2007 financial crash; in its wake, it actually thrived.

It’s a multi-billion dollar question, not least because London looked pretty vulnerable as the crisis unfolded. Unlike previous recessions, which had hit the Midlands and north harder, the early 1990s recession had its greatest impact in London, reflecting a shift from manufacturing to “speculation” (broadly-defined, to include housing and stock markets as well as knowledge-intensive activity).

A lot of people (including Gordon, and me) expected the years after 2007 to be a re-run, or worse. Instead, between 2007 and 2013, employment in five central London boroughs rose by 23 per cent, a faster annual growth rate than in the period running up to the crash, though unemployment rose across London, and job number recovery rates in the rest of the capital remained at much the same level as the rest of the UK.

Gordon reflected on whether there were structural features of London's economy that helped it survive. He also asked whether there were policy biases in terms of public and private investment and cutbacks, and whether the programmes of economic intervention (bail-outs, guarantees and quantitative easing) had features that favoured London.

The first two factors certainly contributed something. Structurally, the devaluation of the pound by 25 per cent between 2007 and 2009 could have helped tourism and investment (more on this below). What’s more, businesses fought to retain skilled workers , who are disproportionately located in London. And London’s economy was well-equipped to continue to supply luxury goods to rich individuals whose wealth was relatively unaffected by financial vicissitudes (the “plutonomy model”, named after the CitiGroup reports of the mid-2000s).

There were also policy biases towards London. The 2012 Olympics and Crossrail were big capital projects sponsored by government, which boosted the ability of London construction services firms to sell their skills overseas. There is some evidence that firms headquartered in London were quicker to lay off branch office than head office personnel, too.

But these factors shrink in significance, Gordon argued, compared to the sheer weight of financial intervention. He cited Andrew Haldane of the Bank of England in valuing the guarantees given to banks as equivalent to a subsidy of £100bn in 2009 alone (through their reductions in the cost of borrowing).

Meanwhile, quantitative easing was designed to divert nervous money away from safe bonds into more risky and productive investments – but, coupled with low interest rates, it encouraged a surge in equity prices. (Some went to emerging markets in search of even higher returns.) The FTSE 100 index rose from a low of less than 4,000 in 2009 to nearly 7,000 today – around the level of its 2008 high – delivering great returns for many investors.

But the job growth in the five boroughs studied (City of London, Westminster, Islington, Tower Hamlets and Hackney) was not restricted to financial services. It was also in property, real estate and engineering, tourism, hotels and restaurants, public services, and creative and digital businesses.

Some of the growth in professional property and engineering activity can be attributed to the big capital projects, and the confidence that London’s 2012 success created. Growth in creative and digital businesses includes not only Tech City (about which Gordon was sceptical), but also IT support to increasingly tech-driven financial services. Finally, a buoyant stock market does much to help the higher end of the restaurant business: witness the profusion of £100 per head openings around the hedge-y hotspots of Mayfair.

Going beyond Gordon’s careful analysis, it’s also worth asking what part London’s booming property market played. The devaluation of the pound did little to boost tourism in the short term (visitor numbers did not return to their 2007 levels until 2012); but it did make London a safe haven for overseas investment.

Much of this investment went into property, and particularly the prime central London market, where 60 per cent of purchases by value were by overseas buyers in 2007-11. And after a brief slowdown in 2008, prices recovered fast, rising by 45 per cent across central London by 2013.

But, unlike prices, transaction volumes remained stubbornly low; they fell by about 40 per cent in 2007, and have remained pretty low ever since. In other words, buyers' money was flooding in, but sellers weren't responding; the market has failed to regain its pre-crash liquidity.

Investors wanting to increase their exposure, or to invest gains made in the stock market, had limited options for new purchases. So many chose to extend or dig down, creating catacombs of wealth in London’s most desirable streets – and contributing to the growth in employment in construction, engineering and allied trades.

So, the recovery in London’s economy, or at least in job numbers, has been focused on a very small area of the city. Perhaps more significantly, it could be seen as based on the wealth of a fairly small section of the population, and their spending habits, from underground cinemas to Michelin-starred restaurants.

This influx and expansion of wealth in central London may or may not be a good thing in itself – it has generated employment for a lot of Londoners, but its impact on property prices and the cost of living has stretched far beyond central London. And we shouldn’t become complacent about what it means for the future.

Gordon suggests that, just as this unique set of circumstances cushioned London in the downturn, they are also amplifying a speculative upswing. Central London may not have escaped the recession by means of our extraordinary civic virtue and vigour, by the discovery of some magic formula that has “abolished boom and bust” (remember that?).

Rather, he suggests, it may have prospered through a happy co-incidence of circumstances that has papered over the cracks. A change in interest rates, or exchange rates, or a crash in property prices could also have amplified impacts – equally and oppositely.

How London’s economy will fare longer term is a matter for crystal ball-gazing, not secure prediction. But we owe it to ourselves to reflect more rationally and systematically on whether London has achieved such apparently gravity-defying success through luck or good judgement. Those answers may be helpful if – when – the tables turn.