The Case for Allowing Residential Use in Toronto’s Financial District South

David M. Nowlan Professor of Economics Emeritus, University of Toronto Partner, August Trust Research Partnership

Toronto, November, 2004 Contents

Summary...... i

Introduction...... 1

Mixed Use, Downtown Population Growth and Economic Success...... 6

Offices in Mixed Use Areas...... 14

Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development...... 18

Supply of Alternative Sites for Office Development...... 24

Conclusions...... 32 Summary

Lanterra Yonge Lakeshore Inc is proposing a mixed-use residential/retail/entertainment project at 15 York Street, next to the Air Canada Centre and within a precinct called, in Part II of Toronto’s Official Plan, the “Financial District South.” This District, which lies on either side of York Street below Front Street, most of which is south of Union Station below the railway tracks, is restricted in the Plan to “non-residential” uses. Lanterra is thus proposing an amendment to the Plan.

This report analyzes, from an economics and planning perspective, the desirability of only permitting non-residential uses in the Financial District South, rather than mixed uses including residential, and it looks in particular at the merit of permitting residential units at 15 York Street.

The evidence presented in this report shows that the market will readily be able to provide future downtown office space when the demand for it arrives, whether or not 15 York Street and the rest of the Financial District South are available for office uses. There is no benefit in preserving the Financial District South for office use only when there exists a viable mixed-use residential proposal such as 15 York Street, particularly given the positive benefits that would accrue from the development. These benefits include: stimulating potential office developments by making the area more attractive for future offices, addressing the commuting imbalance, reconnecting the Downtown with the Waterfront, and creating a vibrant area of the City.

The Financial District South is within the Railway Lands East which is among the downtown areas designated as a “Mixed Use Area” in Toronto’s proposed new Official Plan. Both the new Plan and the older Part II Plan envisage that this area will be developed so that the central city may be “reunited with the Central Waterfront.” The Part II Plan calls for new development in the area to “have a mix of uses, and a form,

i Summary character and environmental quality which will ensure that the area is used by people for a variety of purposes throughout each day”(para. 2.1). The new Plan regards precincts such as York Street as “important to the vitality of Downtown as a great place to live and as an attractive and competitive business location”(p. 16).

The idea of encouraging mixed use developments in downtowns as a way of stimulating and revitalizing areas that in the past have often been regarded as business-only precincts has taken hold in cities around the world. In recent years, with soft office markets, these mixed-use environments have often been driven by residential and retail developments, with office uses coming in once the renewed vitality and interest of an area is seen.

Toronto has been among the world leaders in encouraging such mixed use environments downtown, going back at least to the 1970s when the 1976 Official Plan paved the way for a turnaround in the residential population of the central area. Since 1976, the population of the central area has risen by 50 per cent, with the effect not only of enlivening the downtown but also of reducing commuting needs in and out of Canada’s major employment centre. As the Official Plan says, “The large increase in Downtown activity and development over the past three decades has not been accompanied by any significant increase in road capacity. Instead, the growth in trips has been successfully handled by improvements to transit services and by an increase in Downtown housing that has put more people within walking and cycling distance of their place of work and other activities … Policies favouring the expansion of transit over increases in road capacity and encouraging more mixed use development in the Downtown are key components of this Plan”(p. 18). At another point it notes that “Every home built within the Downtown area offsets the need for in-bound commuting each day”(p. 15).

In spite of the enormous success Toronto has had in encouraging people to live in the central area, there still are more than four times the number of people working in the area than workers who live there—a difference of over 300,000 people—and of course not all workers who live in the area work there. Thus the issue of commuting demand is a major one for Toronto and not one that can be thought of as solved. When the demand for

ii Summary downtown office space returns, an increase of only 10 per cent in office workers alone will require approximately three additional inbound and three outbound lanes of arterial road capacity plus room for an additional 8,000 peak-hour transit trips in each direction, unless this demand too can be offset at least to some extent by an increase in the residential population (see pages 3 and 4 of the report). So it would seem to be prudent to take every advantage of what is at the moment a strong housing market in downtown Toronto to add capacity to our housing stock not just to reduce current commuting needs but to “bank” residential space against the return of office-employment growth.

The purpose of encouraging downtown housing is not just to offset commuting needs but to help build an attractive environment for both residents and businesses. Increasingly, people like living downtown. U.S. authors point to an “emerging national trend in demand for downtown living.”

In a definitive recent study of mixed-use developments around the world, the Urban Land Institute writes that “Residential uses often were not included in mixed-use projects of the 1970s and the 1980s, but in recent years they have come to play a prominent role, accounting for a high percentage of mixed-use projects developed over the past decade.” … “Housing is the use that will drive mixed-use development over the next five years, partly because of the strong housing market and weak demand in most other sectors. Housing in mixed-use developments will be fuelled by the growing diversity of housing markets and available housing products, and by growing demand for intown and urban housing products.”1 This downtown housing dynamic is illustrated in the body of the report with examples from New York, Vancouver, Melbourne, Copenhagen, Portsmouth and a dozen cities in the U.S. including the large Yerba Buena Centre next to the CBD in San Francisco where a convention centre, museums and galleries and 2,500 housing units have preceded the current and on-going development of office space.

As a result of this “return to the city,” the downtown populations of many U.S. cities have been rapidly rising, like Toronto’s. Seattle and Pittsburgh increased their downtown

1 Mixed Use Development Handbook, 2nd edition, Urban Land Institute, 2003, p. 50 and p. 396.

iii Summary residential populations by over 50 per cent in the ten years from 1990 to 2000. San Francisco, Portland (OR), Miami and Chicago all saw growth above 30 per cent. New York’s downtown grew by 16 per cent, Dallas’s by 28 per cent.

Richard Florida in his path-breaking work on The Rise of the Creative Class attaches considerable importance to the rise of the downtown as an indicator of economic growth and innovation. He finds that the ranking of cities by their high-tech index “is positively correlated with the share of a region’s population living downtown.”

“Seattle illustrates the trend,” Florida writes. “Nearly half of all high-tech jobs in Seattle are located in the city versus 35 per cent in the suburbs … Almost a third of all high-tech companies and jobs are in the central business district, Pioneer Square and Belltown, even though Microsoft and its tens of thousands of employees are located outside the city. … Sommers and Carlson found that many high-tech companies prefer the urban environment for its “vertical character, specialty shops, street life, entertainment and proximity to a great mixture of businesses and cultural activities … People thrive on the thick labour markets, job opportunities and amenities there.”2

The Urban Land Institute believes that “once office and hotel development markets begin to pick up in four or five years, however, new office development will likely gravitate toward new and existing mixed-use districts that offer a better office environment than free-standing sites.”3 Major recent projects illustrate this attraction office users have to mixed-use environments. A significant example is the Time Warner Centre in the heart of Manhattan at the southwest corner of Central Park which opened in February this year with 198 residential units, 200,000 square feet of office space, a Mandarin Oriental Hotel plus entertainment and retail facilities. Another example is the Sony Centre am Potsdamer Platz in the centre of Berlin which opened in the middle of 2000 with 730,000 square feet of office space, 285,000 square feet of residential space (201 units, both rental and condominium), and 452,000 square feet of retail and

2 Richard Florida, The Rise of the Creative Class, Pluto Press Australia, 2003, p. 288-9. 3 Mixed Use Development Handbook, p. 16.

iv Summary entertainment space. The Sony Centre was fully leased by opening day in spite of a very soft office market in Berlin, as elsewhere, in that year.

Office tenants like to locate in and near mixed use environments. The attraction of lively surroundings that mixed uses entail is clear enough, but there is a further relevant point especially for office employers in a downtown with a large and growing residential population. This population supplies the type of worker that offices need. In Toronto, the characteristics of the growing downtown residential population match extremely well the employee needs of the downtown employers.

It is not just the match of skills to jobs that helps the competitiveness of downtown but also the size of the local labour force relative to demand. Empirical studies strongly support the prediction of urban theory that wages for similar jobs will vary by location, and that the highest wages will be at the employment centre, the CBD. The reason for this is that if employees from the suburbs are to be induced to work centrally and not at a job closer to home, they have to be compensated for their commuting costs, not just out- of-pocket costs but also time costs. For equivalent jobs, average wages in any location will therefore reflect the average commuting length of the employees at that location. A recent study of Minneapolis-St Paul and Boston found that wages for equivalent jobs varied by up to 15 per cent within the metropolitan areas of these cities and that “this variation is significantly related to the average travel times for workers in the various zones.”

Since wage costs make up most of the costs in the office-based services sector, the wage differences that have been observed create a substantial penalty for businesses locating in a central location with a relatively small local supply of workers. This is one of the factors that drive firms out of the CBD and to outer metropolitan locations with better access to workers. For many firms, of course, benefits of a central location such as locational or cluster economies no doubt offset this high cost, but the point remains that if commuting costs could be reduced through a substantial increase in the size of the local labour supply, wage costs in the centre would fall and centrally located firms would

v Summary become even more competitive and less likely to leave the area, and others would be more likely to want to locate centrally. Thus the economic benefit to the City of greatly increasing the residential population of the central area is enormous.

Aside from the broadly beneficial effects of increasing the downtown residential population, a mixed-use residential/retail/entertainment project of the type being proposed by Lanterra will make adjacent sites more attractive to office developers. This increased attractiveness will bring forward the optimal time for office building in the area and, correspondingly, will raise the present value of the sites for contemplated office uses. The mechanism by which this higher land value and advanced development timing will occur are the higher rents that can be charged for office space in mixed-use environments.

Based on the evidence we have, a conservative estimate of the effect of a mixed-use environment on office rents is that they would be raised by at least 10 per cent. This creates a substantial incentive to initiate an office project earlier than otherwise and it correspondingly raises the value of the site for office uses. The body of the report uses a simple example to show that an anticipated 10 per cent increase in net rent would bring forward the optimal time of an office development from 15 years hence to 5 years hence and that it would almost double the present value of the site for office uses.

Thus, even small changes in net rents will result in large increases in the value of land for office purposes and this in turn will shift development activity towards office projects and away from residential, where the two uses compete for sites. Thus, the market provides negative and self-adjusting feedback to the development industry. As residential and mixed use projects such as the Lanterra proposal gradually increase the attractiveness of downtown, office demand responds and a relative shift in land values begins to favour office projects.

A growing demand for downtown office space, when it occurs, will of course be related to factors other than simply the growth in the residential population. Toronto is the

vi Summary financial and business-service heart of Canada, and downtown is the office centre for these activities. The Financial District, for example, while having only about 19 per cent of the City of Toronto’s total office employment has 65 per cent of financial and business service employment. As the Canadian economy grows, so too will the need for employment in these important service sectors.

By linking the potential growth in downtown office employment to the predicted growth in overall Canadian employment, some estimate of the possible increase in demand for downtown office space may be calculated. This is done in the body of the report. It points to a possible increased need for office space in the Financial District of approximately 7,300,000 square feet after 50 years, i.e., by 2054. The comparable number for the whole of the Central Area is 17,230,125 square feet. By comparison, the existing supply of developable office space on vacant sites in the downtown is estimated at about 20,000,000 square feet, of which over 12,000,000 square feet “have or are being marketed,” according to Colliers International. (These 12,000,000 square feet include projects south of College and west to Spadina.)`

In addition to space on these vacant sites, there is the strong potential over the coming decades for redevelopment of many low-density sites in the Financial District. For example, properties in this district with densities below 6 cover an area of about 22 acres and have a current average density of 2.29. If these properties were to be redeveloped at an average coverage ratio of only 15 above the current 2.29, an additional 14,228,000 square feet of office space would become available, about double the forecast increase in demand through to 2054.

As noted earlier, based on the evidence, it is reasonable to conclude that the market will be able to provide future downtown office space when the demand for it arrives, whether or not 15 York Street and the rest of the Financial District South are available for office uses. There is no benefit in preserving the Financial District South for office use only when there exits a viable mixed-use residential proposal such as 15 York Street, particularly given the positive benefits that would accrue from the development. These

vii Summary benefits include: stimulating potential office developments by making the area more attractive for future offices, addressing the commuting imbalance, reconnecting the Downtown with the Waterfront, and creating a vibrant area of the City.

viii Summary Introduction

Lanterra Yonge Lakeshore Inc is proposing a mixed-use residential/retail/entertainment project at 15 York Street, known as Block 5, a 2.14 acre site in the Railway Lands East, at the northeast corner of York Street and Lakeshore Boulevard West. This site, labelled site “D” in Map C of the Railway Lands East Part II Plan, is in a part of the Railway Lands East called the “Financial District South.”

The Financial District South straddles York Street south of the railway tracks and is designated, in the Part II Plan, for “non-residential” use. Lanterra is thus seeking an amendment to the Plan to permit residential uses. Although the intention of this designation when the Part II Plan was approved 10 years ago may have been to direct the land to office uses, in fact the first development in the Financial District South was the Air Canada Centre.

This report analyzes, from an economics and planning perspective, the desirability of only permitting non-residential uses in the Financial District South, rather than mixed uses including residential, and it looks in particular at the merit of permitting residential units at 15 York Street.

In Toronto’s proposed new Official Plan, which was approved by City Council in November 2002, the Central Waterfront, which includes the Railway Lands, is described as part of the Downtown. Much of the Downtown and in particular all of the Railway Lands East is designated as a Mixed Use Area (OP, Map 12) with unique opportunities for “substantial employment and residential growth” (OP, p. 14).4 This is consistent with the Part II Plan which calls for the Railway Lands East “to be developed as an integral part of the Central Area so that the barrier effects of the road and rail corridors will be minimized and the central city reunited with the Central Waterfront. New development

4 Policy 1 in Chapter 4 of the Official Plan defines mixed-use areas as those “made up of a broad range of commercial, residential and institutional uses, in single use or mixed use buildings, as well as parks and open spaces and utilities.”

1 Introduction in the Railway Lands East would have a mix of uses, and a form, character and environmental quality which will ensure that the area is used by people for a wide variety of purposes throughout each day” (Part II, para. 2.1). The new Official Plan further states that “Well designed connections between the core of the City and the Central Waterfront are important to the vitality of Downtown as a great place to live and as an attractive and competitive business location” (OP, p.16).

The logic of mixed use residential development downtown in Toronto is set out in the new Official Plan. “Mixed use is a key ingredient,” it says, “to the successful functioning of Downtown and by creating ‘accessibility through proximity,’ shows that moving less is clearly achievable” (OP, p.15). The Plan elaborates, “Every home built within the Downtown area offsets the need for in-bound commuting each day” (OP, p. 15).

This beneficial effect of downtown residential development is later explained by noting that “The large increase in Downtown activity and development over the past three decades has not been accompanied by any significant increase in road capacity. Instead, the growth in trips has been successfully handled by improvements to transit services and by an increase in Downtown housing that has put more people within walking and cycling distance of their place of work and other activities. … Polices favouring the expansion of transit over increases in road capacity and encouraging more mixed use development in the Downtown are key components of this Plan” (OP, p.18).

Toronto was one of the earliest cities in North America to embrace mixed use in the central area. The Colonnade on Bloor Street was one of the first, if not the first, high rise mixed-use developments in North America and was part of the stimulation behind the 1976 Official Plan of the City which sought to encourage residential development not only south of Bloor Street but right in the heart of the financial district. The 1991 Official Plan provided even stronger language and policies for increasing the downtown residential population.

2 Introduction For the central area as a whole, this encouragement has paid huge dividends. Beginning in the late 1970s, the central area population began to reverse a decades-old downward slide. A census population of 108,087 in 1976 rose to 112,374 by 1981, 143,397 by 1991 and 167,259 by 2001. This increase in turn has reduced the need for commuting to and from the central area by an estimated 38,000 commuters a day over the 1976-2001 period and by 16,600 during the decade from 1991 to 2001.5 This growth in residential population has resulted in a reduced commuting demand on road and transit systems. The growth in retail, restaurant and recreational facilities accompanying this population increase has not only helped create a more vibrant and enjoyable downtown for its residents but also for businesses located in the centre.

In spite of this population increase, the imbalance between the central area residential labour force and the number of people working in the area is still significant. Of the 166,054 people living in the central area in 2001, 98,195 were in the labour force, and not all of these work in the central area. Contrasting this with the approximately 415,000 people who work in the area, including about 280,000 in offices, shows the extent to which further commuting savings are possible through the continued expansion of the downtown residential population.

More importantly, this imbalance of jobs and homes underlines the sensitivity of commuting demand to the future growth of employment in the central area. With no increase in residential population, each additional 100 office workers will add between 80 and 90 commuters daily into and out of the central area. Thus an increase in office employment of as little as 10 per cent would increase the demand for commuting facilities by 23,000 or 24,000 people daily. Using the model-split and peak-hour ratios

5 This is based on an estimated saving of 70 commuter trips into and out of the central area for each 100- person increase in residential population. This “nexus” estimate goes back to a 1989 paper by David Nowlan and a subsequent publication by Nowlan and Greg Stewart in the Journal of the American Planning Association. The relationship among population, employment and commuting has been brought up-to-date most recently in a 2000 report by Nowlan for the City of Toronto. See David M. Nowlan, “Commercial Growth and the New Toronto Plan,” in Proceedings of the CityPlan ‘91 Forum on the Future of the City of Toronto, 1989, David M. Nowlan and Greg Stewart, “Downtown Population Growth and Commuting Trips: Recent Toronto Experience,” Journal of the American Planning Association, Vol. 57, No. 2, Spring 1991, and David M. Nowlan "An Update of the Nexus Relationship and a Comment on the Central Area Residential Labour Force," City of Toronto Planning Division, The Future of Downtown Toronto: Background Studies, June 2000.

3 Introduction that Greg Stewart and I have calculated,6 this would require slightly more than an additional three inbound and another three outbound lanes of arterial road capacity plus the capacity for almost 8,000 additional peak-hour transit trips in each direction.

Although “office and retail uses will continue to be paramount in the Financial District” (OP, p. 77), residential projects such as 33 University Avenue, 1 King Street West and the Trump International hotel/apartment building at the corner of Bay and Adelaide have been welcomed into the financial core, in keeping with the Official Plan policy of encouraging downtown residential development. It does seem incongruous, therefore, that the York Street corridor in the Railway Lands East retains its 1994 designation as “non-residential.” Both the new Official Plan and the older Part II envisage that these lands will help provide a much needed connection between the Downtown north of Front Street and the waterfront, and both acknowledge the importance of ensuring that the area is used throughout the day for a wide variety of purposes. Equally as important, the demand for additional office space in downtown Toronto is weak at present while the demand for residential units is strong. This presents an ideal opportunity to “bank” additional residential population against the time when downtown employment is again rising, so that this additional population can continue to offset the need for new commuting facilities.

These introductory observations suggest that a mixed-use designation that included residential would make sense on 15 York Street and the rest of the Financial District South, as part of the Railway Lands East precinct. The economic benefits and consequences of such a designation are elaborated in the following sections, first through a look at the recent experience in North America and elsewhere with mixed-use downtown development. Richard Florida’s view that downtown population size and growth are correlated with urban economic success is illustrated. The beneficial effects of residential and retail uses on office demand is then analyzed, with the conclusion that the proposed Lanterra development would raise the value of adjacent land for office uses and hasten the time when office projects would be launched. The sites currently

6 See “Downtown Population Growth and Commuting Trips,” op.cit., p. 175.

4 Introduction available for office development in the downtown are then noted and the likely demand for office space over the coming several decades is analyzed in order to help evaluate the argument that space in the Financial District South must be preserved for office uses. A concluding comment ends the report.

5 Introduction Mixed Use, Downtown Population Growth and Economic Success

A strong demand for downtown residential space exists in city after city, with downtown mixed-use developments proving popular not just in North America but in Europe and Asia as well. In the U.S., Fitzgerald and Leigh point to an “emerging national trend in demand for downtown living.”7 Increasingly, the mixed use developments that are helping revitalize downtown areas in many U.S. cities are led by residential and retail developments, with office uses following.

The Urban Land Institute summarizes the situation this way in its definitive recent study of mixed-use developments around the world: “Residential uses often were not included in mixed-use projects of the 1970s and the 1980s, but in recent years they have come to play a prominent role, accounting for a high percentage of mixed-use projects developed over the past decade.”8 … “Housing is the use that will drive mixed-use development over the next five years, partly because of the strong housing market and weak demand in most other sectors. Housing in mixed-use developments will be fuelled by the growing diversity of housing markets and available housing products, and by growing demand for intown and urban housing products.”9

A notable example of this leading role that housing has been playing is the development of The Solaire, a 293-unit apartment high-rise in lower Manhattan, the first new development to be completed in zone 1, the immediate area of the World Trade Centre disaster. It is located downtown in the middle of the Battery Park Redevelopment project. Opened in 2003, it is now almost completely rented. Other buildings in the area have been successfully converted to apartments, while office projects are underway in the area, including of course the five-building development on the site of the World Trade

7 Joan Fitzgerald and Nancey Green Leigh, Economic Revitalization: Cases and Strategies for City and Suburb, Sage Publications, 2002, p. 170. 8 Mixed Use Development Handbook, 2nd edition, Urban Land Institute, 2003, p. 50 9 ibid., p. 396.

6 Mixed Use, Downtown Population Growth and Economic Success Centre, to be anchored by the Freedom Tower with 2.6 million square feet of office space.

The Concord Pacific Place development on the False Creek site of Expo 86 in downtown Vancouver is another example of a major mixed-use project led by residential development. It was specifically designed as a residential development in its initial phases in order “to improve the balance of residents to jobs and to avoid dispersing or slowing down the development of existing office areas,” with a view to choosing “residential development over office whenever reasonable.”10 Plans call for 2.5 million to 3 million square feet of commercial to follow.

In Melbourne, the reclamation of the downtown Docklands area, immediately adjacent to the CBD, is in response to the city’s desire to increase the downtown residential population in order to reduce commuting travel by achieving a better balance of jobs and homes and in order to retain the CBD as a desirable work location. The Docklands is now home to a number of large apartment buildings, retailers, restaurants and entertainment facilities with more to come.11

Copenhagen’s waterfront Havnestad Syd project provides another example of a 721,000 square foot mixed office residential development in which the residential component has been the first phase to be developed. The office component is expected to be built out over the next several years.

In Portsmouth, England, a mixed-use project is underway on a 20-acre site in the centre of the city. It is planned to have more than 200 residential units, a hotel and 750,000 square feet of leisure and retail space. Its designer, David Moreno, says that “our goal is to reconnect the important existing components of the urban core into a seamless

10 City of Vancouver, Planning Department, False Creek Policy Broadsheet, 1988 11 My experience of Melbourne is first-hand, having lived there for many months during the last three years during which I gave several invited lectures to state, city and academic planners. They have a lively interest in Toronto and say that their new polices to stimulate downtown residential growth were very much influenced by Toronto’s experience and by the nexus relationship in particular, the reduction in commuting as a result of Toronto’s central area residential growth.

7 Mixed Use, Downtown Population Growth and Economic Success pedestrian network of compelling shopping streets, plazas and gardens,” yet another example of residential and retail uses leading the revitalization of a downtown area.

The advantages of having a larger downtown resident population as an attraction for office jobs is reflected in project after project in U.S. cities in recent years, many of them on downtown waterfronts or previously industrial lands. These include:

 West Palm Beach, Florida, where a mixed-use town centre, CityPlace, has been created on a 72 acre site in the heart of the city. Housing, cultural facilities, restaurants and retailers have been the first uses to be developed; offices, hotel and conference space are next planned. According to the development team, “the provision of various housing options was important to achieving 24-hour street life integral to the project’s success.”

 The Old Bank district in Los Angeles where apartment developments are leading a downtown revival and are seen as crucial to attracting businesses.

 16 Market Square in downtown Denver where 3 new office buildings have been introduced with 183,860 square feet of space following the successful redevelopment of LoDo into a mixed-use neighbourhood including 1500 housing units between 1988 and 1998.

 The Peabody Place in the heart of downtown Memphis, one of the largest mixed-use developments in the U.S., which started with the Peabody Hotel and the Gayoso House Apartments.

 New York is attempting to create a new CBD district in Queens with “commercial, residential and community facilities allowed as-of-right.”

 In downtown Atlanta, three new mixed-use projects are adding momentum to a downtown revival, one of which, Sweet Auburn Village, is slated to have 40,000 square feet of office space, 180 residential units and 42,800 square feet of retail space.

 The redevelopment of Pennsylvania Avenue in Washington, D.C., has involved a mixture of office, retail, apartments and condominiums.

 Downtown San Diego has staged a “remarkable renaissance” through several mixed use projects in the core including the “Vantage Pointe” condominium/retail project and the “Smart Corner” office/residential/retail complex.

8 Mixed Use, Downtown Population Growth and Economic Success  Austin is undergoing an “exciting revitalization” in the downtown area with many new residential and office developments.

 And even downtown Dallas is becoming a lively mixed-use area, which led Omnicom Group in 1999 to decide to move there “due to the attractiveness of downtown.”

Perhaps one that is closest to the Railway Lands situation in Toronto is the Yerba Buena Centre in the SOMA (South of Market) district of San Francisco, an 87-acre site adjacent to the CBD. As is happening and apparently will continue to happen in the Railway Lands East, development in Yerba Buena has taken place over time on a site-by-site basis by different developers. Although plans for redevelopment of the area began to be made in the 1950s, in fact much of the development activity has occurred only over the last five or ten years, with residential buildings preceding offices.

The Yerba Buena site is anchored by a convention centre and now includes 20 museums and galleries, 2600 hotel rooms, a 350,000 square foot entertainment centre, 2,500 renovated or new housing units, 1,500,000 square feet of office space and more than 10 acres of public gardens. Construction is continuing with three new museums, three additional hotels, about 1,000 more dwelling units, and other major retail and mixed-use buildings under way. According to the ULI Handbook, the underlying philosophy of Yerba Buena is the notion “that public amenities—gardens, museums and cultural facilities—can act as a catalyst for reinvestment in a distressed urban district and serve as the nucleus for a new mixed-use neighbourhood.”12

In consequence of these and other projects, the downtown population in U.S. cities has begun to increase, following the pattern of Toronto. The following table shows these downtown population increases between 1990 and 2000 for a selection of U.S. cities with downtown populations in excess of 20,000 or with a growth of over 20 per cent during the decade.13

12 ULI, Mixed Use Development Handbook, op.cit., p. 378. 13 The U.S. downtown population data are from Economic Revitalization, op.cit., Table 6.1, p. 172. They are originally from unpublished work by E.L. Birch. There is a difficulty in determining the population of downtowns in that there is no standard definition of what constitutes the “downtown” of a city. According to Rebecca Sohmer and Robert Lang in their paper “Downtown Rebound,” in Bruce Katz and Robert E. Lang (eds.), Redefining Urban and Suburban America, Brookings Institute, 2003, some work on establishing a consistent definition across U.S cities of their downtowns is being done at the University of Pennsylvania. The U.S.

9 Mixed Use, Downtown Population Growth and Economic Success Table 1 Downtown Residential Population Growth Rates, 1990 to 2000 Downtown Area in 1990 Downtown 2000 Downtown % Growth City Square Miles Population Population 1990-2000 Atlanta 3.5 19,763 24,931 26.2 Baltimore 2.5 28,597 30,067 5.1 Boston 4.4 77,253 80,903 4.7 Chicago 3.7 56,048 72,843 30.0 Dallas ? 11,858 15,198 28.2 Detroit 1.4 34,872 35,618 2.1 Los Angeles 4.6 34,655 36,630 5.7 Miami ? 15,143 19,927 31.6 Minneapolis ? 36,334 30,299 -16.6 New York Downtown ? 87,743 101,493 15.7 New York Midtown ? 66,184 69,215 4.6 Philadelphia 4.3 74,686 78,349 4.9 Pittsburgh ? 6,517 10,216 56.8 Portland (OR) 1.8 9,528 12,902 35.4 San Francisco ? 32,906 43,531 32.3 Seattle 1.2 12,292 18,983 54.4 Washington, D.C. ? 26,597 27,667 4.0 1991 Downtown 2001 Downtown Population Population Toronto, south of Bloor 3.67 91,158 107,503 17.9 Street from Bathurst to Parliament Toronto, south of 1.97 25,234 34,863 38.2 College Street from Spadina to Jarvis Source: Economic Revitalization, for U.S. population; Redefining Urban and Suburban America; for U.S. downtown areas. Toronto downtown south of Bloor Street consists of census tracts 11-17, 32-39 and 59- 66; downtown south of College consists of tracts 11-15 and 34-37.

In the cases of Baltimore, Philadelphia and Detroit, the increases in downtown population occurred in spite of declining populations over the whole of each city. In the other cases, save for Minneapolis, both the downtown and the city populations were up over the decade.

downtown areas are taken from this work. I have shown two plausible definitions of Toronto’s downtown population.

10 Mixed Use, Downtown Population Growth and Economic Success What’s particularly interesting is the extent to which the downtown population increases in the U.S. cities are related to the “creativity” indexes created by Richard Florida, which in turn are highly correlated with the Miliken “High-Tech” Index, an index of the significance of high-tech industries in the city.14

Table 2 lists the top ten U.S. cities ranked by the High-Tech Index, with Florida’s combined “Creativity Index,” his “Composite Diversity Index,”15 the size of the downtown in 2000, and its rate of growth between 1990 and 2000 also shown.

It’s immediately obvious that the cities with the highest High-Tech Index are also those with either the fastest growing downtown residential populations or the largest downtown populations, or both. Phoenix, with its sprawling development pattern is an exception. These are also cities that score high on the Creativity Index and the Composite Diversity Index (even Phoenix is in the top half of these rankings).

Florida attaches considerable significance to the rise of the downtown as an indicator of economic growth and innovation. “We found that downtown revitalization is associated with the same lifestyle factors that appeal to the Creative Class. The Gay Index, for instance, is strongly associated with percentage change in downtown population; and both the Gay Index and the Bohemian Index correlate with the share of a region’s population living downtown. The Composite Diversity Index is the best predictor of both the percent change in downtown population and the percent of the region’s population living downtown. We also found that thriving downtowns are associated with vibrant high-tech industries. The Milken High-Tech Index, for instance, is positively correlated

Table 2 High-Tech Index Rank Compared with Creativity and Diversity Index Rankings and with Downtown Residential Population Size and Growth Rate High-Tech City Florida’s Florida’s Downtown Percentage Index Rank Creativity Composite Residential Growth of

14 Richard Florida, The Rise of the Creative Class, Pluto Press Australia, 2003. 15 For definitions of these indexes, see ibid., pp. 333-4.

11 Mixed Use, Downtown Population Growth and Economic Success Diversity Index Rank Index Rank Population Downtown, (out of 49 cities) (out of 49 cities) in 2000 1990-2000 1 San Francisco 1 1 43,531 32.3 2 Boston 3 4 80,903 4.7 3 Seattle 5 8 18,983 54.4 4 Los Angeles 13 2 36,630 5.7 5 Washington, D.C. 9 7 27,667 4.0 6 Dallas 11 14 15,198 28.2 7 Atlanta 14 13 24,931 26.2 8 Phoenix 22 18 5,925 -9.1 9 Chicago 16 15 72,843 30.0 10 Portland, OR 18 16 12,902 35.4 Source: The Rise of the Creative Class; Economic Revitalization with the share of a region’s population living downtown … My research documents the striking statistical correlation between ethnic diversity and high-tech industry. Immigrants … turn out to be one of the keys to economic growth.”16

He goes on to describe Seattle, which as we’ve seen had a staggering 54.4 per cent increase in its downtown population between 1990 and 2000. “Seattle illustrates the trend,” he writes. “Nearly half of all high-tech jobs in Seattle are located in the city versus 35 per cent in the suburbs … Almost a third of all high-tech companies and jobs are in the central business district, Pioneer Square and Belltown, even though Microsoft and its tens of thousands of employees are located outside the city. Amazon.com put its new headquarters in an abandoned hospital on the outskirts of downtown … One of the city’s leading real estate firms, Martin Smith Real Estate, has created an ‘urban technology campus’ of buildings in and around the downtown. In their study of these shifts, Sommers and Carlson found that many high-tech companies prefer the urban environment for its “vertical character, specialty shops, street life, entertainment and proximity to a great mixture of businesses and cultural activities … People thrive on the thick labour markets, job opportunities and amenities there. Microsoft even runs a round-

16 ibid., p. 288

12 Mixed Use, Downtown Population Growth and Economic Success the-clock bus to take its employees who live in and around downtown Seattle to its suburban headquarters.”17

The evidence is obviously strong that a large and growing downtown population is a sign of a vital and innovative urban economy, and that polices to encourage the growth of population downtown, including especially support for mixed-use residential developments, are likely conducive to overall economic (and social) success.

Offices in Mixed Use Areas

Mixed use environments, whether the uses are mixed within a single building or mixed among adjacent buildings is proving to be attractive to office tenants. ULI’s Mixed Use Development Handbook concludes that “Office and hotel uses will increasingly favor mixed-use environments, but in some cases they will prefer to be in adjacent rather than central locations in a mixed-use development. Because of high vacancy rates in most areas of the United States, Europe and even Asia, office uses will not be the major drivers of mixed use projects over the next five years. In fact, the trend in mixed-use projects in recent years has been away from office and hotel uses and towards residential and retail uses. This trend will continue over the next three to four years. Once office and hotel development markets begin to pick up in four or five years, however, new office development will likely gravitate toward new and existing mixed-use districts that offer a better office environment than free-standing sites.”18

In fact, in some notable major recent projects, the principle office tenant has been the driving force behind the creation of a mixed-use project, in order to create a vital, 24- hour-a-day mixed-use environment using residential units as an important component.

17 ibid., pp. 288-9 18 Mixed Use Development Handbook, op.cit., p. 397.

13 Mixed Use, Downtown Population Growth and Economic Success A significant example of this is the Time Warner Centre in the heart of Manhattan at the southwest corner of Central Park which opened in February this year with 198 residential units, 200,000 square feet of office space, a Mandarin Oriental Hotel plus entertainment and retail facilities. Another example is the Sony Centre am Potsdamer Platz in the centre of Berlin which opened in the middle of 2000 with 730,000 square feet of office space, 285,000 square feet of residential space (201 units, both rental and condominium), and 452,000 square feet of retail and entertainment space. The Sony Centre was fully leased by opening day in spite of a very soft office market in Berlin, as elsewhere, in that year.

Two other major projects of this sort are worth mentioning. One is the Roppongi Hills project in the centre of Tokyo that opened in 2003, the largest private-sector project ever completed in Japan. On a large 28.7 acre site, it contains luxury housing and designer shops along with a 53-storey office tower and is hoped to improve the competitiveness of Tokyo as a destination for further investment. The second is the Kuala Lumpur City Centre project opened in 1999 and the location of the Petronas Twin Towers which house the head office of the Malaysian state oil company. This is said to be the largest real estate development in the world with a total of 17,970,000 square feet of office, residential, retail, hotel and entertainment space on 22 lots surrounding a 5-acre park. Other residential facilities are planned in the vicinity.

Office tenants seem to like to locate in and near mixed use environments. The attraction of lively surroundings that mixed uses entail is clear enough, but there is a further relevant point especially for office employers in a downtown with a large and growing residential population. Richard Florida, in one of his quotes above, refers to a “thick” labour market. A thick market is one in which an employer has a relatively easy task of hiring the number and type of employees that are needed. In Toronto, the characteristics of the growing downtown residential population match extremely well the employee needs of the downtown employers.

14 Mixed Use, Downtown Population Growth and Economic Success Jobs in the central area are highly concentrated in the service sectors, particularly the high-end, high-technology and high-information service sectors. These jobs require superior educational achievements, and that is what the central area residents are delivering. According to the 2001 census, almost 35 per cent of the total central area population in Toronto had a bachelor’s degree or higher. This is in sharp contrast with the less than 20 per cent of the overall Toronto CMA population with bachelor’s degrees or higher. The dynamics of both business and residential locational patterns are bringing labour-market supply and demand characteristics together in ways that are beneficial to both sides.

It is not just the match of skills to jobs that defines a thick labour market, but the size of the local labour force relative to demand. Urban theory predicts that wages for similar jobs will vary by location, and that the highest wages will be at the employment centre, the CBD. The reason for this is that if employees from the suburbs are going to be willing to work centrally and not at a job closer to home, they have to be compensated for their commuting costs, not just out-of-pocket costs but also time costs. Average wages for comparable jobs in any location will therefore reflect the average commuting length of the employees at that location.19

Empirical studies strongly support this theoretical prediction. One of the earliest studies, published in 1981, used Chicago data. Wages for the different occupational groups were found to decline by between 1.0 and 1.6 per cent for each mile distant from the centre at the Chicago Loop. Other studies have found similar patterns. A recent one using data from Minneapolis-St Paul and Boston found that wages varied by up to 15 per cent within the metropolitan areas of these cities and that “this variation is significantly related to the average travel times for workers in the various zones.”20

19 For a discussion of the theory underlying this prediction of wage variations, see my paper “The Efficiency of the Urban Land Market” at http://www.chass.utoronto.ca/~nowlan/teaching/note5.doc. 20 The 1981 study is R.W. Eberts, “An Empirical Investigation of Urban Wage Gradients,” Journal of Urban Economics, vol 10, 1981. The quote is from Darren Timothy and William C. Wheaton, “Intra- Urban Wage Variation, Employment Location and Commuting Times,” MIT Centre for Real Estate, unpublished, January 2001. Other well known studies include William C. Wheaton, “Office Growth in the 1990s: Downtown versus Edge Cities,” Urban Land, April 1996 and D.P. McMillen and J. McDonald, “Suburban Subcentres and Employment Density,” Journal of Urban Economics, vol. 43, 1998.

15 Mixed Use, Downtown Population Growth and Economic Success Since wage costs make up most of the costs in the office-based services sector, the wage differences that have been observed create a substantial penalty for businesses locating in a central location with a thin local labour pool of qualified people. This is one of the factors that drive firms out of the CBD and to outer metropolitan locations with better access to workers. For many firms, of course, benefits of a central location such as locational or cluster economies no doubt offset this high cost, but the point remains that if commuting costs could be reduced21 through a substantial increase in the size of the local labour supply, wage costs in the centre would fall. Centrally located firms would become even more competitive and less likely to leave the area, and others would be more likely to want to locate centrally.

Thus the economic benefit of greatly increasing the residential population of the central area is enormous. As well, these benefits are widely distributed. The City and its taxpayers will benefit from the reduced expenditures needed for commuting infrastructure; residents will benefit from reduced commuting costs, both time costs and out-of-pocket costs; and businesses will benefit from lower wage costs. The lower wage costs and a more vibrant mixed-use downtown will in turn induce more businesses to locate centrally from which the City will gain a second round of financial benefit.22

21 As recent City studies have shown, of those who live and work in the central area, 45 per cent walk to work. Toronto Star, October 12th, 2004. 22 If new business taxes exceed the cost of servicing new offices, as is generally assumed to be the case.

16 Mixed Use, Downtown Population Growth and Economic Success Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development

More local residents create economic benefit by reducing the commuting costs of the daily work trip to the CBD, but the benefits to businesses in the central area go beyond this. Increasingly, as I have shown, office employers like to locate where there is a good supply of entertainment facilities, cafes and restaurants and a lively street scene during the day and after hours. A recent “Business Retention Survey” asked 65 companies in downtown Denver a number of questions about the problems and attractions of locating there. One of the questions asked each respondent to state what they regarded as the “single most important thing that needs to be improved or enhanced if Downtown Denver is to grow and prosper.” The largest response, by 26 per cent of the companies, was “transportation.” But the second and third most common responses were “retail opportunities” (14%) and local “housing” (11%). Also in the top group of responses was “establish critical mass of businesses and residents,” which at 7 percent was cited almost as often as “cleanliness,” “safety” and “parking.”23

A mixed-use residential/retail/entertainment project of the sort being proposed by Lanterra will undoubtedly make adjacent sites more attractive to office developers. This increased attractiveness will bring forward the optimal time for office building in the area and, correspondingly, will raise the present value of the sites for contemplated office uses. The mechanism by which this higher land value and advanced development timing will occur are the higher rents that can be charged for office space in mixed-use environments.

Not a lot of empirical work has been done yet on the rent differential between mixed-use and homogeneous environments, but the evidence we do have strongly supports the view that mixed-use is preferred, other things being equal. One of the most comprehensive recent studies of the determinants of office rents was undertaken by Edwin Mills, a 23 “Downtown Denver Business Retention Survey,” prepared for the Downtown Denver Partnership by Development Research Partners, July 2004. 17 Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development Northwestern University urban economist, for 543 office buildings in the Chicago metropolitan area. These represented about 80 per cent of the total metro area office space. He demonstrated that rents depended on about 15 characteristics of the building and its location. His relevant findings were that “the availability of shops [in the building] is estimated to add 2.68% to office rents … availability of restaurants increases office rents by 9.64% … The estimated coefficients imply that the availability of a bank or daycare centre causes large additions to rents, although only the bank coefficients are [statistically] significant … The health club coefficients are smaller, but not significant.”24

Mills did not include residential uses in his study, but his results are nonetheless relevant to the Lanterra proposal because that project will help, through its non-residential components, create the type of mixed-use environment that Mills found to raise office rents. Higher potential office rents, as I show below, increase the likelihood of early developments on adjacent land. Without the Lanterra project, the York Street corridor within the Financial District South remains empty land.

In its comprehensive overview of mixed-use developments, the Urban Land Institute has found that “mixed-use development can achieve greater long-term appreciation in land and property values. By creating a special place through the innovative mixing of land uses and creative urban design, owners can benefit greatly in the long term from the appreciation in value of both the project itself and the surrounding undeveloped land.”25

Later in the book, the authors write: “Evidence suggests that quality mixed-use environments can achieve superior office rents and performance. According to Eric Smart of Bolan Smart Associates of Washington D.C., ‘In general, it is reasonable to expect a rent premium of 5 to 25 percent for an office product in a well conceived and executed mixed-use development.’ Office space in Reston Town Centre in Reston Virginia, for example, as of 2002 had achieved the highest rents in northern Virginia …

24 Edwin S. Mills, “Office Rent Determinants in the Chicago Area,” Journal of the American Real Estate and Urban Economics Association, vol 20, 1992. 25 Mixed Use Development Handbook, op.cit., p. 29. 18 Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development at Legacy Town Centre in Plano Texas, the developers were able to lease space in a soft office market to several major users, including Compaq Computers and Marriott, because they preferred the mixed-use environment over many more conventional competing sites. Ken Hughes of Kenneth H. Hughes Interests in Dallas says ‘Office buildings close to restaurants and other shopping are more popular with many tenants, and I suspect that on average individual tenants stay in the same building longer.’ ”26

If we accept the evidence that increasingly office tenants prefer mixed-use environments and are willing to pay rent premiums for such settings, a conservative estimate of the effect of a mixed-use environment on office rents might be a 10 per cent increase. What effect would this have on the timing of office development on, say, the 25 York Street site immediately to the north of the Lanterra site? To understand the answer to this, reference must be made to the underlying theory of optimal development timing.

Essentially, the theory of optimal timing uses the assumption that the actions taken or contemplated by developers are such that the present value of the site is maximized. The competitive land market serves to ensure that the developer who places the highest value on the site will get the land. A developer contemplating an office building of some specific size at 25 York Street will consider the expected current net rent per unit of office space (where the net rent appropriately accounts for any expected vacancy rate) in this and future years, and these numbers will be compared with the cost of a building.

What is important for judging the best timing is a comparison of the expected future net rents from the building with the annualized equivalent of the expected total building cost.27 If the net annual rent is currently below the annualized building cost, then the developer will delay building. If the net rent is expected to stay below the building cost,

26 ibid., p. 50. The Handbook also reports that Patrick Phillips of Economics Research Associates in Washington thinks that “large tenants may perceive a conflict—any use other than office may be seen as compromising their identity.” But this view would seem to be contradicted by the many major tenants who actively set out to create for their head offices a mixed-use environment—see the previous section of this report. 27 For example, if the building cost—including all costs such as finance, legal and developer profit as well as the construction cost— is expected to be $300,000,000 five years from now, and if the rate of interest or return on an alternative investment of the same risk category is 10% a year, then the annualized equivalent building cost is $30,000,000. 19 Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development then the developer will have no plans for development, but may sell the site to someone who has a different expectation of future rents and costs. If, in the future, the net rent in fact stays below annualized costs, then the building will never be built.

But, if net annual rents are expected to rise at a rate higher than the expected increase in building costs, then at some point the net rent will be expected to reach and go above the annualized building cost. The optimal time to build will be just where the net rent reaches the annualized construction cost, and this will be the planned construction time if the plans are based on expectations of rents and costs.28

The effect of an adjacent mixed-use project on the timing of some development, and on the value of the site, may now be seen through an example. Consider the allowed 800,000 square feet of office space on the vacant 25 York Street site in the Financial District South. Suppose that with expected net rents of $22 per square foot (an average that includes the effect of expected vacant space) and construction costs of $250 per square foot, it makes no sense to proceed immediately with the project (if the construction cost is annualized at 10 per cent, it comes to $25 per square foot or $20,000,000 for the building while the net rental stream would only be $17,600,000). However, suppose, as an example, that net rent is expected rise by 3 per cent a year while construction costs are expected to rise by only 2 per cent per year. Then, at some point, expected net rent will rise to meet and then surpass the expected annualized building cost.

This hypothetical situation is illustrated below in Figure 1, using the assumptions that have just been mentioned. The annualized construction cost over future years is shown by one curve; annual net rents with and without an adjacent mixed-use environment are

28 The reason this is the optimal time for development is that the current value of the land is highest when it is planned to develop just when net rent has risen to equal the annualized cost of construction. The land value will be less if construction takes place either before this point or after. For a full discussion of the theory of optimal land development, see my paper “A Model of Development Timing” at http://www.chass.utoronto.ca/~nowlan/papers/development_timing.doc. If an optimal decision is to be made with respect to both the timing of the development and the size of the building, the optimality conditions become a little more complicated. Even with the size given, the condition that optimal timing occurs where a net annual rent curve crosses the annualized building cost from below is not precisely correct since account must be taken at the margin of the rate at which construction costs are rising, but this introduces only a very slight change to the optimal time. The precise condition can be worked out from equation 3 in my paper. 20 Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development shown in two other curves. The adjacent mixed-use development is assumed to be completed in year 3. At that time, the net rental curve with mixed use rises 10 per cent above the curve without mixed use.

Without adjacent mixed use, the optimal time for office development on this site is 15 years from now. With an adjacent mixed-use development in year three, the optimal time is advanced by 10 years, to a time only 5 years hence. Thus, a modest increase in the magnitude of the net rent revenue stream has had, in this example, quite a dramatic effect on timing.29

To the extent that an office development of this type produces public benefits, such as tax revenue that exceeds the cost of providing project-related city services, the effect of the earlier development is to bring these benefits forward in time. This has a significant effect on the present value of the public benefits. Every year these benefits are delayed, their present value is reduced by the rate of discount, currently about 4 or 5 per cent after adjusting for inflation. If development of some given project is delayed by 10 years, the anticipated public benefit is only about two-thirds of what it otherwise would be.

Equally dramatic, although not shown in the diagram, is the enhanced site value of 25 York Street as a result of the adjacent mixed-use development. The earlier optimal development time combined with a 10 per cent higher stream of net rents comes close to doubling the site value of 25 York Street.30

29 The precise effect is of course dependent on actual expectations about the paths of future net rents and future construction costs. While the assumptions used in this example are quite realistic in today’s environment, other assumptions will change both the best time for development without adjacent mixed uses and the best time with such mixed uses. If for example net rents were expected to increase by only 2.5 per cent a year then the optimal development time without and with adjacent mixed uses would be more than 15 and 5 years respectively. The conclusion however remains unchanged: the adjacent mixed use will bring significantly forward the optimal time to develop this office property, and the 10 per cent higher net rent stream will continue to have the effect of almost doubling the value of the vacant site for office uses. 30 Formally, the site value is the integral of the rising future net rents less the constant annualized construction cost discounted back to the present. This is sometimes called the “residual” land value. 21 Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development Figure 1 Timing of an Office Development With and Without Adjacent Mixed Use 800,000 square-foot building; cost today $250 per square foot, rising at 2% per year, annualized at 10%; net annual rent today $22 per square $50,000,000 foot and rising at 3% per year t s $45,000,000 o C g n i d l i $40,000,000 u B t n e l a

v $35,000,000 i u q

E annual equivalent building cost l a u $30,000,000 n optimal development in 5 net annual rent without adjacent mixed use n A

years with adjacent mixed d n use 10 % increase in net annual rent with a $25,000,000 t adjacent mixed use in year 3 n e R

l optimal development in 15 a

u years with no adjacent mixed

n $20,000,000

n use A t e N $15,000,000

$10,000,000 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 Years from Today

22 Effect of the Lanterra Development on the Value of Adjacent Land and the Timing of Development Supply of Alternative Sites for Future Office Development

Demand for downtown office space is currently weak, but this may be a cyclical phenomenon and demand may well begin to grow, perhaps sooner rather than later. If the arguments given above are correct, then the continued growth of the downtown residential population and mixed use buildings will create a more attractive environment for offices and may well speed the time when office demand recovers.

The demand recovery, when it occurs, will be signaled by a rise or an expected rise in office rents. Even small changes in net rents will result in large increases in the value of land for office purposes, as I have shown in the previous section, and this in turn will shift development activity towards office projects and away from residential, where the two uses compete for sites. Thus, the market provides negative and self-adjusting feedback to the development industry. As residential and mixed use projects gradually increase the attractiveness of downtown, office demand responds and a relative shift in land values begins to favour office projects.

A growing demand for downtown office space, when it occurs, will of course be related to factors other than simply the growth in the residential population. Toronto is the financial and business-service heart of Canada, and downtown is the office centre for these activities. The Financial District, for example, while having only about 19 per cent of the City of Toronto’s total office employment has 65 per cent of financial and business service employment. As the Canadian economy grows, so too will the need for employment in these important service sectors.

23 Supply of Alternative Sites for Future Office Development Figure 2 Office Employment in the Financial District and Central Area of Toronto as a Percentage of Total Canadian Employment

ratio of Central Area Office Employment to Employed Canadian Labour Force ratio of Financial District Office Employment to Employed Canadian Labour Force

10.00%

9.00%

8.00%

7.00%

6.00%

5.00%

4.00%

3.00%

Central Area ratio 2.00%

1.00% Financial District ratio 0.00% 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

The relationship between the Canadian economy and employment in the Central Area may be shown by plotting the ratio of Central Area and Financial District employment over recent years to the total employed Canadian labour force.31 This is done in Figure 2, with Central Area data going back to 1983 and Financial District data back to 1993. With respect to the Central Area as a whole, the relationship peaked in 1989 and again in 1999. The ratio was stable in 2000 and 2001 but has fallen in each of the past two years, 2002 and 2003. In the Financial District, the relationship has been more stable, although again the ratio in the last few years has been fallen below the 1999 peak.

If there is the suggested link between the office sector in downtown Toronto and the overall Canadian economy, perhaps these employment ratios combined with independent projections of Canadian employment can be used to give some sense of what the office

31 The basic relationship is to the Canadian economy, but if employment is linked to GDP, for example, changing labour productivity must be taken into account which essentially brings the basic relationship back to the Canadian employment level.

24 Supply of Alternative Sites for Future Office Development demand might be in future years. Given the recent declines in the employment ratios shown in Figure 2, such an exercise should give us a very aggressive look at what might become of downtown employment and it should be regarded as an upper limit.

The current (2003) ratio of Central Area office employment to Canadian employment is 1.65 per cent, a ratio below its high of 1.88 per cent in 1999. Suppose that this ratio will now stabilize rather than continue to fall. It can then be applied to projections of Canadian employment to yield a projected office employment number for the Central Area. For the Financial District, which is part of the Central Area, the comparable ratio is 0.70 per cent. This is higher than it was in the early 1990s, but it too has fallen in recent years from 0.81 per cent in 1999. Again, supposing that this ratio will now stabilize rather than continue to fall, the 0.70 per cent can be used for upper-limit projections.

For Canadian employment projections, I use the recent “Outlook” from the Policy and Economic Analysis Program of the University of Toronto.32 The results are shown in Table 3. Starting from today’s Canadian employment level, the projected annual increases in the Outlook document are applied through until 2025, the final year of the projection. To continue the projection for another 30 years to 2054, I simply applied the same annual rate of growth of the employed labour force that the Outlook study applied for the years 2019 to 2025, 0.3 per cent. The annual change had become quite stable by this point in their projection.

From these projected numbers I take the increases over current employment for the years 2024, 2044 and 2054, as shown in column 3 of Table 3. The Central Area and Financial District office employment ratios of 1.65 per cent and 0.70 per cent are applied to these projected Canadian changes to yield the employment increases shown in the 4th and 5th

32 Peter Dungan and Steve Murphy, “Long Term Outlook for the Canadian Economy: National Projection through to 2025,” Policy Study 2004-2, Policy and Economic Analysis Program, University of Toronto, July, 2004.

25 Supply of Alternative Sites for Future Office Development Table 3 Upper-limit Projections of Central Area and Financial District Office Employment and Floor-space Increases over 2004 Projected Projected Canadian Central Financial Employmen Projected Projected Area District t Increase Central Financial Additional Additional from Area Office District Office Office Current Employmen Office Space Space Canadian (2004) t Increase Employmen Needs over Needs over Year Employment Levels over 2004 t over 2004 2004 2004 2004 15,988,000 2024 18,450,000 2,462,000 40,623 17,234 10,155,750 4,308,500 2044 19,570,000 3,582,000 59,103 25,074 14,775,750 6,268,500 2054 20,165,000 4,177,000 68,921 29,239 17,230,125 7,309,750 columns. These are then converted to office floor space projections at 250 square feet per employee.33

The final result is a projected upper-limit increase of 68,921 Central Area office employees over the next 50 years, having an office space need of 17,230,125 square feet. In the Financial District, the comparable numbers (which are of course part of the Central Area projections) are 29,239 employees requiring 7,309,750 square feet.34

Table 4 Potential Sites for Downtown Office Buildings

33 This has been a long-term average space use per office employee, although it went up during the 1990s when employment fell and tenants had more space than they needed. A similar increase in the office space use per employee was noticed in the U.S. in the early 1990s. In their recent study, Joan Fitzgerald and Nancy Green Leigh argue that “Today, with team approaches in personnel organization, ratios are closer to one person per 150 square feet.” (Economic Revitalization, op.cit., p. 173) An earlier study in the U.S. using data from the 1980s came up with a figure between 258 and 267 square feet per office employee. See John M. Clapp, Dynamics of Office Markets: Empirical Findings and Research Issues, The Urban Institute Press, 1993, pp. 165-7. For today’s offices, the figure of 250 square feet per employee used in the text is probably on the high side even for downtown offices. 34 This projection is an upper limit for another reason: it does not take into account the growing number of employees who will work at least partly from home offices and thus not need as much space in downtown buildings.

26 Supply of Alternative Sites for Future Office Development Address Building Name Rentable Area Market Region Buildings that have or are being marketed as potential sites for offices in the downtown, from Colliers International Bay-Adelaide Centre - 40 Adelaide Street W North Tower 400,000 Financial Core Richmond Adelaide Centre 100 Adelaide Street W (Phase 3) 712,000 Financial Core Bay / Dundas Development 555 Bay Street South Tower 596,140 Downtown North 560 Bay Street 50,000 Downtown North CF Bay / Dundas 575 Bay Street Development North Tower 900,000 Downtown North 747 Bay Street College Park Phase 4 465,000 Downtown North 767 Bay Street College Park Phase 3 558,200 Downtown North 30 Church Street 40,081 Downtown South TrizecHahn Technology 151 Front Street W Centre Phase 2 380,000 Financial Core 304 Front Street W 215,272 Downtown West City Place Royal Trust 365 Front Street W Data Cente 960,000 Downtown West 400 Front Street W Front Wellington Plaza 121,347 Downtown West 400 Front Street W Front Wellington Plaza 339,228 Downtown West Brooke Murchison Block 150 King Street E Redevelopment 250,000 Downtown East 30 Mercer Street 55,731 Downtown West 18 Mowat Avenue 14,000 Downtown West 40 The Esplanade Prudential Development 220,000 Downtown South 80 The Esplanade Southtown Phase 2 1,038,887 Downtown East 100 The Esplanade Southtown 1,274,135 Downtown East 180 University Avenue Sun Life North 566,000 Financial Core 299 Wellington Street W Front Wellington Plaza 375,000 Downtown West 20 Yonge Street World Trade Centre 550,000 Downtown South 185 Yonge Street Campeau Development 300,000 Downtown North 20 York Street Southtown 575,825 Downtown South 25 York Street 796,155 Downtown South 30 York Street Southtown 581,825 Downtown South Subtotal 12,334,826

Additional properties identified by Fairmont Developments 20 Bay St Water Park Place, Oxford 350,000 45 Bay Street Canada Post 1,200,000 Bay/Adelaide, remainder Brookfield/Canapen 877,300 BCE Place Brookfield 750,000 280 Front West H&R 900,000 2 Queen St W. Cadillac 895,000 Simcoe/Wellington Cadillac 518,000 16 York St Fairmont 1,240,120 18 York St Fairmont 625,000 20 Bay St Water Park Place, Oxford 350,000 Subtotal 7,355,420 All Properties 19,690,246

I turn now to look at the availability of potential sites for office development to meet the 50-year space needs projected in Table 3. Since development and redevelopment is a dynamic process, with buildings being torn down and the sites rebuilt, this comparison of

27 Supply of Alternative Sites for Future Office Development potential supply to possible demand is not a precise exercise, but it is worth having a look at some data.

Table 4 contains a list of downtown properties from Colliers International and Fairmont Developers, properties that they consider potential development sites. Colliers regards the properties they list as ones that “have or are being marketed as potential sites for offices in the downtown.” The Fairmont list adds to these properties that are not yet at the marketing stage. The Fairmont properties are strictly in the financial core while the Colliers list goes up to College Street and west to Spadina.35 The complete list thus embraces an area a little larger than the Financial District but considerably smaller than the Central Area.

Taking the total rentable area at face value, one sees in Table 4 that at 19,690,246 square feet the potential supply of space is not only above the projected increase in Financial District demand for the next 50 years but also that of the whole Central Area. Recall that these projections envisaged an increase in demand of 7,309,750 square feet and 17,230,125 square feet respectively.

A couple of further comments are worth making. One is that the Fairmont portion of the list contains properties in the Financial District South, notably 16 and 18 York Street, that could be developed for mainly for mixed-use residential if such a use comes to be allowed in this district. That would remove 1,865,120 square feet from the total, which still would leave almost 17 million square feet for development. Another observation is that the rentable area shown in the table are areas that in some cases at least would be subject to negotiations over density allowances, the result of which would be to raise the available supply.

Finally, these properties consist principally of new building sites and not sites with buildings that would be likely candidates for redevelopment to higher densities over the next 5 decades. We can get some sense of this redevelopment potential by noting that 82

35 This reflects the continuing expansion of core-area offices outside the traditional Queen-York-Jarvis boundaries of the formal Financial District.

28 Supply of Alternative Sites for Future Office Development of the 188 properties in the Financial District north of Front Street have coverage ratios below 6. These 82 properties cover an area of about 22 acres, 23 per cent of the Financial District total, and have a current average density of 2.29.36 If these properties were to be redeveloped at an average coverage ratio of only 15 above the current 2.29, an additional 14,228,000 square feet of office space would become available.37

Some of the sites with less than 6-times coverage are clearly small and difficult to develop except in conjunction with adjacent developments, but among this set are 7 properties in excess of 32,280 square feet (3,000 square metres) with an aggregate site area of 9.9 acres.38 At an incremental 15-times coverage, these properties alone could conservatively provide 6,460,000 additional square feet of office space, just about the total projected increase in demand through to 2054 for the Financial District.

Still in the Financial District north of Front Street, there are a total of 13.9 acres of private sites with less than 2 times floor-space coverage and having an average existing density of 0.6. Of this amount of land, 6.2 acres involves sites of over 32,280 square feet with a development potential at 20 times coverage of 5,400,000 square feet of office space.

Yet another perspective on office-development potential may be taken. Buildings built before 1939 sit on 26.6 acres of land and have an average density of 7 times coverage. If, over the next 50 years, these sites were rebuilt at an average incremental density of 10, an additional 11,600,000 square feet of office space would be provided.

36 These numbers are based on 2001 data from the City of Toronto Planning Division, but they will not have changed much since then. A further analysis of these Financial District properties is contained in my report “Economic and Planning Implications of Easing Density Restrictions in the Financial District of Toronto,” a report that examined the implications of the Trump International hotel/residential project on Bay Street. 37 This amount overlaps with some of the potential amount of office space shown in Table 4, since some of the under-six-times-coverage sites are vacant sites included in Table 4. The point is to look in a slightly different way at the office development potential in the Financial District. 38 During the office boom of the mid and late 1980s, 18 buildings were built in the Financial District of which only half were on lots in excess of 21,520 square feet (2000 square metres). The rest were on sites that ranged in size down to 7,700 square feet (720 square metres). The average density of buildings built after 1980 is 16.2 times coverage.

29 Supply of Alternative Sites for Future Office Development On the basis of this evidence is reasonable to conclude that the market will not have difficulty providing future downtown office space when the demand for it arrives, whether or not 15 York Street or, for that matter, the whole of the Financial District South is held for office use only or developed with mixed uses including residential.

30 Supply of Alternative Sites for Future Office Development Conclusion

The City of Toronto has been in the forefront of supporting mixed-use developments, including residential projects in the downtown, with great success. This strategy has become even more important in recent years. The evidence from downtowns around the world strongly indicates that mixed environments “attract and engage people in a way that single-use projects can never achieve.”39 In today’s investment climate, mixed-use residential projects are at the leading edge of mixed-use projects and frequently create the surroundings that lead to increased business interest.

After its survey of office developments in the U.S in the late 1990s, the Urban Land Institute concluded that “Certain characteristics will make some downtowns more attractive than others for office development, among them a mix of land uses (residential, retail, commercial, tourist, cultural, entertainment, educational and governmental), a sense that the streets and sidewalks are safe, the availability of convenient mass transit and a pedestrian-friendly and lively ambiance.”40 In the six years since that was written, these have proven to be exactly the characteristics that have led to successful downtown office growth.

Even though the Financial District to the north permits both office and residential development, the Part II Plan for the Financial District South currently permits only non- residential uses, based presumably on the aim of creating an office-building precinct. Yet York Street, the central artery of the Financial District South, is one of the main connecting streets between the CBD and the waterfront. Its function in this regard would be greatly enhanced if it were developed as a mixed use artery, with residential uses providing a lively, populated environment throughout the week. Offices may well come to this district, but if they do it is likely that they will come because they are attracted to an environment that includes mixed-use residential/retail/entertainment projects such as that being proposed by Lanterra. 39 Mixed Use Development Handbook, op.cit., p. 345 40 Urban Land Institute, Office Development Handbook, second edition, 1998, p. 329.

31 Conclusion The recovery of office demand, when it occurs, will be signaled by a rise or an expected rise in office rents. Even small changes in net rents will result in large increases in the value of land for office purposes, as I have shown, and this in turn will shift development activity towards office projects and away from residential, where the two uses compete for sites. Thus, the market provides negative and self-adjusting feedback to the development industry. As residential and mixed use projects gradually increase the attractiveness of downtown, office demand responds and a relative shift in land values begins to favour office projects.

Today, downtown residential demand in Toronto is flourishing while office demand is weak. This may not always be the case: demand for new downtown office space may well return. If it does, there is more than an adequate supply of land and redevelopment sites to satisfy this demand. Optimistic projections of the demand for new office space in the Financial District and the broader Central Area over the next 50 years can readily be met, indeed can be substantially exceeded, by the potential that now exists for the development of new space even without the use of capacity in the Financial District South.

If residential demand were to lessen while office demand grows, Toronto will again be forced to look at the commuting cost of downtown employment growth, particularly given the existing imbalance downtown between downtown office jobs and resident workers.

By driving up wage rates, rising commuting costs reduce the competitiveness of downtown businesses, but the alternative of building more commuting facilities into the downtown has substantial public and environmental costs. Toronto has managed this conflict very successfully with its policy of encouraging residential population growth in the central area, even in the core of the Financial District. It would seem prudent to make use of the current market forces favouring residential growth if only to provide against the day when office demand returns. If demand for downtown office space doesn’t

32 Conclusion return, or returns only weakly, then the encouragement of mixed-use residential units will still have highly beneficial effects for Toronto and its development.

33 Conclusion