At my co-founder Peter's recommendation, I picked up Cities and the Wealth of Nations by Jane Jacobs. 

The Book itself was written in 1985, so a number of the events that seem "current" at the time feel a little dated (particularly when viewing the growth of China, Japan, and Europe).

Nonetheless, the core of the book has taught me a lot of interesting things thus far.

The curse of Stagflation

Classically, we think of stimulus packages as propping up the economy of different nations and cities. But this didn't actually pan out the way you might think!

If we look at the Marshall plan to supply Europe with aid after WWII, we can see that different nations responded differently to economic boosting. And even within nations, individual cities rise and fall. West Germany outperformed the UK. Northern Italy outperformed Southern Italy. Why?!

The symptom is a problem that Jacobs coins "stagflation". Where unemployment and inflation both rise at the same time.

This runs counter to classic Keynesian thinking, which is all about demand, driven by labor. You'd think that increased unemployment would drive less demand for goods (people have less money to consume). When that happens, prices fall as there is too much supply!

Yet we see just the opposite happening in the U.S. and around the world after the Great Depression. Unemployment + Inflation both rise simultaneously. It's not a desirable result since it tends to make things worse.

One big assumption

Jacobs points out that there has been one big assumption throughout all of economic analysis... that economics must be treated at the level of nations.

Instead, she argues that it's actually worth examining economics at a level of cities. Only then do we start to understand the atomic unit that explains more of how economies operate.

This is definitely a novel idea to me. I've never really thought of economies broken down to the city level, and yet, that does seem to model how most goods actually flow. Perhaps this has only changed recently in the age of the internet.

Import replacement drives cities

Jacobs argues that there are two essential drivers of city economies.

  1. Innovation — better tools to get things done

  2. Import replacement — when cities begin producing a good themselves and no longer need to import that good

"Any settlement that becomes good at import replacement becomes a city."

In effect, the novel idea here is that cities grow over time by steadily attracting new laborers who are able to replace goods that they previously imported. If they do this quickly and often enough, they will hit a "take-off" point and begin transformation into a city. 

Import replacement is important for another reason as well.

If a city is producing more goods, it’s likely supporting a vast network of other goods and services. Each import it manages to replace props up an ecosystem of other goods and services.

A big advantage of this is diversification. Even as market demands change, cities with many exports are like a good immune system: they can rapidly adapt.

You can’t “buy” development

The flip side of import replacement is that you can’t “buy” development.

Jacobs gives an example of the Shah of Iran. Thinking that the Iranian oil supply will eventually run out, the Shah begins commissioning a set of different technology projects to bring diversification to Iran’s exports.

The first of these factory to build 19-passenger helicopters.

Yet, as the factory build starts to begin, all of the contracting and subcontracting is spread across thousands of different American firms. When revolt happens and martial law is declared, the build abruptly halts, and cannot be completed.

While the Iranian government was able to buy the factory, they didn’t buy the expertise. The whole project failed.

This is the opposite approach taken by the Japanese, who began investing in all of the primitives that they could, then building up development on top of it.

In many cases, building the expertise will often take the shape of a very different form of innovation. If won’t leverage the same natural resources or cost profile, simply because the region doesn’t support it.

City feedback doesn’t always reach nations

A particularly interesting part of the book discusses how currencies work.

Currency typically operates on a nation level. It’s driven by how much a nation can purchase from other nations.

What that means is that the currency will tend to fluctuate naturally. If it’s strong, nations will import and bring goods in from other nations. That will drive up the currency of other nations. If a currency is weak, then that country will be more likely to export.

Yet, this can fall down at a city level! Take Denmark, Copenhagen is the dominant city, and the rest are poor. Copenhagen buoys the strength of the currency at a national level, but other rural cities are left poor because they can’t equal Copenhagen’s production.

Cities which are nations don’t have this problem! Think of Singapore and Hong Kong, the currency naturally reflects the state of the city.

Often times this will create a vacuum where all of the power draws to a single city (Paris is the lone industrial part of France, London is the same in the UK).