Urbanization is one of the major forces transforming societies all over the world. The rapid pace of urbanization is succinctly summarized in these sentences from the 2012 World Urbanization Prospects of the United Nations Population Division:
“Between 2011 and 2050, the world population is expected to increase by 2.3 billion, passing from 7.0 billion to 9.3 billion (United Nations, 2011). At the same time, the population living in urban areas is projected to gain 2.6 billion, passing from 3.6 billion in 2011 to 6.3 billion 2050. Thus, the urban areas of the world are expected to absorb all the population growth expected over the next four decades while at the same time drawing in some of the rural population. As a result, the world rural population is projected to start decreasing in about a decade and there will likely be 0.3 billion fewer rural inhabitants in 2050 than today.”
In 1900, less than 15 percent of world’s population lived in cities. According to the latest UN estimates, 52 percent of the world’s population now lives in urban areas. That number is estimated to go up to 60 percent by 2030, and near 70 percent by 2050.
Why are metropolitan areas continuing to grow at such a rapid pace? After all, back in the 1990s, quite a few people were predicting that the Internet would cause cities to decline. The Internet would enable people to work from anywhere, so they would choose to live in less populated areas, where lower costs and more space would let them enjoy a better quality of life. Needless to say, these predictions have not come true.
To help us reflect on this question, let’s first consider why cities exist in the first place. Like all social animals, humans are ill-equipped to survive on their own. With very few exceptions, we live and work in groups. For most of history, the vast majority of people lived in farms and villages, and worked in relatively small organizations.
But, over the past few hundred years we discovered the advantages of economies of scale. Urbanization has been steadily accelerating since the industrial revolution as a result of the migration of jobs from farms to factories as well as the major advances in technologies, communications and transportation. We learned that in many cases, our human organizations are more efficient the larger they are. The larger the city, the fewer physical resources are required to support their populations. Furthermore, larger organizations are typically accompanied by an increase in human interactions which improve their overall creativity and potential for innovation.
Geoffrey West, a physicist formerly at Los Alamos National Lab and now at the Santa Fe Institute, has analyzed the impact of scaling in complex systems including cities. Dr. West and his colleagues discovered that if you know the population of a metropolitan area, you can estimate their resource requirements with a pretty good accuracy. Every infrastructural quantity, from the length of electrical and gas lines to the number of gas stations follows a power law with a sublinear exponent of .85. That is, if you double the population of a city, you will require roughly 2.85 or 1.8 times the physical resources to support the larger population. As cities grow larger, you get significant economies of scale.
They also discovered that the socioeconomic or human patterns of a city followed a similar power law, but this time it was superlinear with an exponent of 1.15. When Dr. West and his colleagues looked at wages, educational institutions, patents, cultural events and other such measures of creativity and innovation, they found that if you double the size of the city, all these measures will go up by 21.15 or 2.2. You get what economists call increased returns to scale.
But their research also uncovered that along with the positive benefits of scale, you also get major problems, including increases in crime, congestion, pollution and contagious diseases. These negative aspects of a city also scale exponentially by the same factor of 1.15, since they are also a result of the increased human interactions. To cope with these problems, cities require a larger police force to control crime, a bigger transportation infrastructure to relieve congestion, and more government services and regulations to manage an increasingly complex city.
In summary, cities are real centers of sustainability, consuming less resources than smaller towns. The infrastructure and resource requirements of cities scale sublinearly, resulting in significant economies of scale. But, few people move to cities because of their increased efficiency. They do so because cities facilitate human interactions. And, every measure associated with those human interactions increases superlinearly, both the good and the bad. Cities are centers of economic activity, innovation and creativity. But, they also suffer from crime, disease and traffic congestion. A well functioning city is one that strikes a reasonable balance between its positive and negative attributes.
We should expect that beyond a certain size, the negatives dominate the positives and the growth of larger cities begins to slow down because they are no longer attractive places to live and work. This was the actual finding of Hot Spots: Benchmarking global city competitiveness, a report released earlier this year by the Economist Intelligence Unit and commissioned by Citi. The Hot Spots study analyzed the competitiveness of 120 of the world’s major cities and evaluated their performance along eight distinct categories, from which it developed an overall Competitiveness Index for each city.
There were 23 megacities, - that is, metropolitan areas with populations in excess of 10 million, - among the 120 cities in the study. Only two such megacities, New York and Tokyo, were ranked among the top ten cities in the economic strength category, which includes market size, GDP growth prospects, purchasing power and income levels. And, despite the built-in advantage of their large markets, only nine megacities were ranked among the top 30, because of their relatively slow economic growth. In fact, one of the major findings of the study is that the fastest overall growth is found in cities with populations of 2 million to 5 million. More generally, mid-sized cities, - those with populations between 150,000 and 10 million, - dominate the economic growth rankings ahead of megacities.
As I thought about these questions concerning the nature of cities, I was reminded of the seminal work of the eminent British economist Ronald Coase. Professor Coase explained the dynamics of another very important human organization, business, in The Nature of the Firm, a seminal paper published in 1937 which along with many other achievements earned him the 1991 Nobel Prize in economics.
Why do firms exist? Professor Coase’s work provides an elegant answer to this question. He explained that, in principle, a firm should be able to find the cheapest, most productive goods and services by contracting them out in an efficient, open marketplace. However, markets are not perfectly fluid. Transaction costs are incurred in obtaining goods and services outside the firm, such as searching for the right people, negotiating a contract, coordinating the work, managing intellectual property and so on. Thus, firms came into being to make it easier and less costly to get work done, much as cities came into being to make it easier and more efficient for people to interact with each other and establish businesses and economies.
A firm will keep expanding and adding people as long as doing so is less expensive than securing the additional services in the marketplace. But, there are limits to what can be produced efficiently within the firm, as well as to how big a firm can get and still remain competitive against faster moving companies. All that growth generally leads to ever larger, multi-layered hierarchical organizations. The additional layers of management and staff can cause the organization to become bureaucratic, significantly impacting its ability to quickly embrace new ideas and technologies when market conditions change. A well managed company strives to achieve an optimal balance between what work gets done within and outside its boundaries. Similarly, a well functioning urban area is one that has achieved a reasonable balance between its overall economic strength and quality of life.
Cities and firms are both highly sophisticated social institutions where people come together for common objectives, be it to achieve a higher standard of living and quality of life , or to develop competitive products and services. Our digital technologies and sophisticated tools, along with all the information and insights now at our disposal are helping us come up with innovative ideas for designing and operating our human organizations. Hopefully, these innovations will result in significant improvements to our cities and all the institutions of society as well as to the very way we live and work.