BAY AREA//SAN FRANCISCO

Cities are struggling. San Francisco could be in for the biggest ‘doom loop’ of all

San Francisco is at risk of a "doom loop" as remote work keeps office workers away, triggering potential related outcomes that could cripple the city. Stephanie Zhu/The Chronicle

Roland Li, Noah Arroyo

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Doom loop (noun) — A scenario in which one negative development causes another negative development, which then makes the first problem worse. A vicious cycle.

This is how San Francisco could die:

Interconnected forces trap the city in economic free fall: Workers remain primarily remote; office space sits empty; businesses shutter; mass transit is sharply reduced or even bankrupt, making it even harder for low- and middle-wage workers who enable restaurants and small businesses to operate, causing major budget shortfalls from declining tax revenue that imperil numerous city services, trigger mass layoffs of city workers and shred the social safety net, all of which causes more people to leave.

- Related: Why Mayor Breed says S.F. is not headed straight for a doom loop

San Francisco officials and business groups acknowledge the possibility of a doom-loop scenario, as some economists call it, and agree that the city will struggle through an indefinite transition period. But they are optimistic the city — as it has after previous downturns — will bounce back to resemble what it was before 2020.

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Others argue that this amounts to magical thinking and a major re-imagining of the city is needed. Though many American cities are struggling in the wake of COVID, San Francisco is perhaps in the greatest peril of them all. The city is heavily reliant on technology and other knowledge industries that lend themselves to remote work, and there is little evidence that employees will return to offices more than two or three days a week. Those offices dominate the urban core, which has few people living there, keeping downtown a hollowed-out shell and less appealing to people who don’t need to work there. Meanwhile, a shortage of affordable housing, sky-high commercial real-estate prices and political polarization persist. Public safety and tourism also would be affected by cuts to policing. The homelessness crisis would worsen.

- SFNext: Fixing Our City podcast: San Francisco’s impending doom loop

And perhaps the ultimate threat: The possibility of a return to 1960s-70s mass migration from cities to the suburbs.

“It’s sort of ground zero for remote work’s impacts,” Arpit Gupta, an associate professor of finance at New York University who co-authored a widely read doom loop paper last year, told The Chronicle during a recent San Francisco visit. “There’s a little bit of desolation in the air, so it definitely seems a little bit apocalyptic to me.” Significant doom loops have caused fiscal crises in other cities in previous decades, such as New York and Detroit.

What should San Francisco do?

Some believe current conditions present an opportunity to re-imagine the city.

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For example, “rather than thinking about downtown San Francisco as simply the central business district for the region, I think we can be thinking about it as the central social district for the region,” said Alicia John-Baptiste, CEO of urban planning think tank SPUR. “I think it’s important for us to start to articulate a really proactive vision for the identity of San Francisco.”

To date, city leadership has yet to pass any major legislation to support significant changes to transform the city. Ted Egan, the city’s chief economist, believes that the likeliest scenario is that the forces of market capitalism will right the ship. Ideas such as office-to-housing conversions, for example, can’t be done quickly or at a big enough scale to make a difference, he has argued.

“We need an element of modesty here,” he said. “In San Francisco, there’s a tradition of grand ambitions. And I think we need, rather than promoting a grand vision, we should … let nature take its course while not going off the rails.”

Here is a primer on the threats, how they might play out, and what the city might do to mitigate them:

Remote work

Fueled by the tech boom, downtown San Francisco became the nation’s most expensive office market. Office work, concentrated downtown, accounted for more than 75% of the city’s GDP and the area generated 95% of the city’s business tax revenue in 2021. Now it is the emptiest market in the nation.

The office vacancy rate soared to a record high 29.4% this month, nearly eight times the 3.7% vacancy rate at the end of 2019, according to preliminary data from real estate brokerage CBRE. San Francisco’s measure of the available space to lease or sublease had by far the highest percentage jump in the nation during the pandemic.

Office occupancy, the percentage of workers actually in the office on a given day, has consistently been among the lowest in the country, and was about 43% by late March, according to data about buildings managed by security firm Kastle.

The absence of office workers hurts more than just corporate office landlords.

“When they’re downtown, they’re buying goods and services,” Gupta said. “They’re getting a haircut, they’re going for lunch, they’re going for happy hour after work.”

Case in point: After 32 years, Alexander Books on Second Street said last week it is closing because foot traffic is only around 45% of pre-pandemic levels, largely due to the absence of office workers and tourists.

“If there had been a different mix of the type of office workers down here, it would have been different,” said co-owner and co-founder Michael Stuppin, a San Francisco native. “The city’s changed.”

No one knows when the office market will rebound, nor what types of tenants might replace tech firms that are continuing to downsize. And now the city is facing a flood of property tax appeals, in which landlords seek to lower their annual bills. If successful, City Hall could see a direct hit to one of its most lucrative tax sources, imperiling the budget and the mayor and supervisors’ spending priorities for the entire city.

The San Francisco Controller’s Office estimated last November that the city could lose nearly $200 million per year in property taxes by 2028 in a worst-case scenario where office vacancy remains high — a 35% plunge in office property tax revenue. Overall, the city is forecasting a $728 million deficit over the next two fiscal years and as much as a $1.2 billion annual deficit by 2028. That could mean a lot of cuts to city services.

“They’re not forecasting a recession, but they’re forecasting a slowdown and weakness in property tax,” said Egan.

A office worker walks to their job in San Francisco's Financial District in 2022. The persistence of remote work has had a substantial impact on the city.

A office worker walks to their job in San Francisco's Financial District in 2022. The persistence of remote work has had a substantial impact on the city.

Felix Uribe/Special to The Chronicle 2022

Egan said the likeliest scenario is that office rents eventually drop far enough to entice new companies to move downtown, rather than a worst-case doom loop outcome. But he has no estimate of how long that would take and how far prices could drop. It’s also unclear what industries would step in to absorb office space.

Real estate experts also can’t say when vacancy will peak and a recovery will begin.

Rents haven’t budged much despite the explosion in office vacancies, with asking rents down around 15% compared with 2019. That’s far less than the 70% plunge after the 2000 dot-com bust, according to CBRE. Rents are staying high in part because landlords don’t want to devalue their buildings and many long-term leases have yet to expire.

Some office landlords are offering concessions like free months of rent and paying for interior office tenant improvements as a way to lure firms without reducing the stated rent per month.

Robert Sammons, senior research director at real estate brokerage Cushman & Wakefield, declined to predict when office vacancy will peak, but said he expects it to continue to go up at least through this year. CBRE projects the same.

“In the near term there’s going to be pain. In the longer term, if the public and private sectors can come together, it can come back and come back strong,” Sammons said.

For all the office vacancies and tech downsizing, San Francisco’s unemployment rate remains at historic lows, though it rose from 2% in December to 2.9% in February.

“Lots of vacant office space is much better than lots of unemployed people,” Egan noted in a recent report.

BART’s survival

BART is the linchpin for downtown San Francisco’s economic health, and its future is in jeopardy.

“There isn’t a path to sort of reoccupying downtown without (public) transit,” Egan said, referring to BART. “San Francisco is one of the only employment centers on the West Coast that most people get to work by (public) transit.”

BART was designed to feed the city’s economic core and has leaned heavily on fare revenue from those workers. The switch to remote work decimated ridership, which in January was about 40% of pre-pandemic levels systemwide and 28% for downtown exits. The transit service’s budget forecasts show an expected $300 million deficit by 2026. As a result, the coming years could see widespread layoffs and service cuts, including shuttered stations, long waits between trains at remaining stations during weekdays and an end to weekend service. Even those cuts wouldn’t secure the agency’s future and, worse, they’d likely deter riders, further hurting revenues. And its impact would be felt throughout the city. “We believe it is reasonable to assume ridership losses would be almost immediate,” said BART spokesperson Alicia Trost. “From there, we would last as long as our reserves could carry us.”

If BART dies, or must cut back dramatically, commuters would be sorely challenged. Office attendance could fall further, as could excursions into the city by regional residents who help support city restaurants and retailers.

Some people could resort to bus service or driving their cars to get downtown. But there aren’t enough streets and parking spaces to accommodate a pre-pandemic volume of drivers into the city’s northeast, Egan said. Bay Bridge traffic is already near pre-pandemic levels, surpassing it at some times of the day, and gridlocked city streets have returned.

BART officials are contemplating a regional ballot measure in 2026 to raise tax revenue and keep the agency alive even if pre-pandemic ridership never returns. But waning federal funds will put BART in dire financial straits before then, leaving its fate uncertain.

Exodus

Across the country, the pandemic turned population trend lines upside-down by spurring a shift from urban centers to suburbs.

“This is the first time the nation’s major metro areas registered an annual negative growth rate since at least 1990,” according to an analysis by the Brookings Institution.

In San Francisco, more than 7% of residents working in computer, engineering and science fields moved out of San Francisco from 2019 to 2021, U.S. census data shows. While that’s a meaningful hit to the city’s tax revenue, it’s not a threat to the city’s tech industry, Egan said — unlike if tech workers left the Bay Area, because then they couldn’t return to downtown in the future and seed the area’s revival. As of 2021, only about one-quarter of 1% of tech workers left the San Francisco metropolitan area, which includes Oakland and Berkeley. The sector has suffered substantial layoffs since last year, with signs those workforce reductions could last through this year.

But San Francisco’s recovery is also threatened by the flight of lower-wage workers. The city lost 55% of food-service workers from 2019 to 2021, 34% of service workers, 33% of people in sales and 26% of office administrative workers, to name a few. Many cannot afford to live in the city, while higher-cost commuting options are driving them to seek jobs closer to home.

With the economy reopened, businesses are now struggling to find workers to wait tables, manage offices and do other jobs that are essential for small and medium-size businesses.

Pedestrians walk past what used to be a Walgreens along Kearny Street in San Francisco's Financial District. The reduction of office workers has forced some businesses to shutter.

Pedestrians walk past what used to be a Walgreens along Kearny Street in San Francisco's Financial District. The reduction of office workers has forced some businesses to shutter.

Jessica Christian/The Chronicle

For all the recent downsizing and fears of a mass outmigration of companies due to remote work, high taxes and safety concerns, there have been no examples of major companies completely abandoning the Bay Area during the pandemic, and only a few significant departures in San Francisco, such as crypto firm Coinbase going fully remote.

San Francisco’s population loss also slowed during the second year of the pandemic, census data released this week shows.

And there is no evidence that the city’s infamously high tax rates are pushing businesses to move workers out of downtown, according to data through 2021, Egan said. Companies with the highest tax burdens weren’t disproportionately reducing their workforces compared to those with lower tax rates, he said.

“Everybody is having less payroll in San Francisco, irrespective of what happened to their taxes,” he said. “It’s a sign that you shouldn’t panic that the tax increases we introduced in 2018 and 2020 led to the increase of office vacancy we’re seeing now, because that’s not what the data shows.”

Housing

As the city struggles to come back to life, it will need to figure out how to draw workers back, and attract new ones. That means it must buck a long-term trend of producing homes that are too expensive for most people — including service workers, police, firefighters and teachers — in order to address hiring shortages, fight crime and teach children.

For decades, San Francisco has produced less low-income housing than state agencies mandated. More than 22,000 housing units were built from 2015 to 2021, city records show, but only about 9% of units were affordable for two-person households earning up to $55,450. About one-quarter of San Francisco households earn up to that threshold, according to 2021 U.S. census data. The vast majority of the remaining housing built was “market rate,” generally for households earning at least $133,000 for a two-person household.

The state has demanded that, from 2023 to 2031, San Francisco must build low-income housing at an annual rate greater than it has over the last two decades.

Although they have softened, San Francisco’s rents remain among the most expensive in the nation, although the city and San Jose are the only two U.S. regions where apartment rents remain below pre-pandemic levels, according to Apartment List. Other cities have seen price surges as people sought more space for working from home, alongside an influx of renters returning to the office part-time. That isn’t happening as much in San Francisco.

“Before the pandemic, a lot of cities just sort of took an attitude towards their residents that they had no other choice,” Gupta said. “You have to live here, be it in San Francisco or New York or some other high-cost city. And that means you can kind of get away with offering those residents a poor quality of living. You can have very high house prices. You can have poor quality of governance. And people just don’t have a choice. They have to stay there and live in the city. What’s changed now is that people do have a choice.”

For many, that choice is somewhere else.

A view of the Financial District and downtown San Francisco seen from the 61st floor of Salesforce Tower in 2022.

A view of the Financial District and downtown San Francisco seen from the 61st floor of Salesforce Tower in 2022.

Jessica Christian/The Chronicle 2022

Silver linings?

Overall, Egan sees three major upsides from remote work if the city and region can survive the transition period, and a potential easing of three of the Bay Area’s biggest pre-pandemic challenges.

Remote work has eliminated the city’s shortage of office space, which was pricing out nonprofits and smaller firms, and making it hard for many companies to grow.

It has also more widely distributed demand for housing, since people can work from home and accept longer commutes if they don’t have to go in five days a week.

And the burden on transit has lessened, reducing congestion in some areas, though the shift from mass transit to driving means Bay Bridge and Golden Gate Bridge traffic resembles 2019, even as BART and Muni lag behind.

“Work from home is basically addressing indirectly the region’s three biggest infrastructure constraints,” Egan said. “Looking out beyond 10 years, I think you have to be optimistic, assuming again you don’t get into the doom loop scenarios. Once you do get to that office adjustment … that positions the area for growth in a way that it wasn’t positioned before.”

Not everyone shares his optimism.

“I think it’s a little bit of an open question whether and how you’re going to get new tenants to come into that space — ever,” said Gupta.

It’s not so much that firms are paying lower prices for their office space, he said — they’re simply giving it up. It’s possible that the market has undergone such a “fundamental shift” that companies never want to come back, he said, especially with many tech startups now normalized to partial or full remote work.

“What firms look like five or 10 years from now is very uncertain,” he said.

Reach Roland Li and Noah Arroyo: roland.li@sfchronicle.com, Twitter: @rolandlisf; noah.arroyo@sfchronicle.com

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Written By

Roland Li

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Roland Li covers commercial real estate for the business desk, focusing on the Bay Area office and retail sectors.

He was previously a reporter at San Francisco Business Times, where he won one award from the California News Publishers Association and three from the National Association of Real Estate Editors.

He is the author of “Good Luck Have Fun: The Rise of eSports," a 2016 book on the history of the competitive video game industry. Before moving to the Bay Area in 2015, he studied and worked in New York. He freelanced for the Wall Street Journal, the New York Times and other local publications. His hobbies include swimming and urban photography.

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Noah Arroyo

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Noah Arroyo is a reporter examining the future of San Francisco. Before The Chronicle, he worked at Mission Local and the San Francisco Public Press and focused on the city’s housing and homelessness crises — possibly two sides of the same coin. Noah takes a data-driven approach when possible and seeks out the sources who don’t generally get quoted.