To embrace “hybridity”, city priorities might include developing mixed-use neighbourhoods, constructing more adaptable buildings, and designing multiuse office and retail space.

Authored by experts at the McKinsey Global Institute, the report, ‘Empty spaces and hybrid places: The pandemic’s lasting impact on real estate’, focuses on real estate in “superstar cities” – defined as cities with a disproportionate share of the world’s urban GDP and GDP growth. Nine superstar cities come under the spotlight: Beijing, Houston, London, New York City, Paris, Munich, San Francisco, Shanghai, and Tokyo. However, data were collected from a greater number to better understand behaviour and help identify patterns in suburbanisation.

The pandemic and the lockdowns that ensued dramatically changed the way people worked, lived and shopped in cities. With many restrictions on working from traditional offices, employees used remote technology to work from home. Many employees, freed from their daily commute, chose to move out of urban centres, impacting the shops and stores in these areas. While the end of the pandemic has seen more workers return to offices, they continue to engage in hybrid work.

The effects of these behavioural changes on real estate in “superstar” cities have been significant, the report notes. In superstar cities’ urban cores, the percentage of office and retail space that is vacant has jumped since 2019, while home prices have increased more slowly than in the suburbs and other cities.

In asking to what extent real estate in superstar cities could continue to suffer, the Institute modelled future demand for office, residential, and retail space in several scenarios. In a moderate scenario modelled, demand for office space was 13 per cent lower in 2030 than it was in 2019 for the median city in the study. In a severe scenario, demand fell by 38 per cent in the most heavily affected city.

Ripple effects

The analysis also predicts complex ripple effects, with a wide variety of factors considered, including long-term population trends; employment trends, such as the ongoing effects of automation; office attendance patterns by industry; employee co-ordination, defined as the maximum share of workers in the office at a given time; workers’ ages and incomes; the share of a city’s population that commutes from elsewhere; housing price variation among neighbourhoods; and shopping trends, including the popularity of online shopping. The modelling is based partly on information from a large global survey that the researchers conducted to understand the behavioural shifts caused by the pandemic.

While the researchers caution that actual outcomes will depend on how external macroeconomic variables, such as inflation and rising interest rates, and other factors play out, they also underline that urban real estate in superstar cities around the world faces substantial challenges. Those challenges, observe the experts, “could imperil the fiscal health of cities, many of which are already straining to address homelessness, transit needs, and other pressing issues”. But they also highlight the opportunity presented to spur urban transformation, adding: “By becoming more flexible and adaptable in everything from the makeup of neighbourhoods to the design of buildings – in essence, becoming more “hybrid” themselves – superstar cities can not only adapt but thrive.”

City centre office attendance

In early 2020, as employees adapted to remote and hybrid work, office attendance in the metropolitan areas studied fell by up to 90 per cent. It still remains down by about 30 per cent, on average, compared with pre-pandemic levels. New York City’s urban core lost 5 per cent of its population from mid-2020 to mid-2022, and San Francisco’s lost 6 per cent.

As of October 2022, office workers were visiting the office about 3.5 days per week, with knowledge economy employees at large firms likely to go to the office fewer days per week. Characteristics of areas with lower office attendance include expensive housing, a higher ratio of inbound commuters to residents, and a small share of retail, while local culture also plays a role.

Other characteristics that correlate with the impact on demand are related to the urban structure of a city. Specifically, cities with office-dense real estate and little mixed-use development, as well as little green space, have tended to experience a greater impact on demand. Such characteristics, observes the report, make places less desirable for working, living and shopping.

Hybrid work also seems to have contributed significantly to out-migration. Among survey respondents who moved after March 2020, one-fifth said their move was possible only because they could now work from home more frequently. In the UK and the US, those people who moved to suburbs citing the ability to work from home as the reason for their move, said they were drawn by housing and living conditions, including better neighbourhoods, the prospect of homeownership, and outdoor space. In Japan and China, the desire to own a home was far and away the strongest factor behind people moving to the suburbs.

Retail patterns

Shopping remains depressed, especially in urban cores, where retailers face acute challenges in attracting customers. As of October 2022, foot traffic had recovered noticeably less near those stores than near suburban ones. In New York, for example, foot traffic near suburban stores was 16 per cent lower than it had been in January 2020, but foot traffic near urban stores was 36 per cent lower. Moreover, office-dense neighbourhoods in urban cores are facing even greater challenges, owing to people coming to the office less often and shopping less often near the office.

To adapt to this new hybrid reality, urban stakeholders could consider adopting more hybrid approaches themselves, asserts the report, which notes: “At the neighbourhood and building levels, and even in the design of the floors of buildings, choosing diversity, adaptability and flexibility, rather than homogeneity, can help cities thrive.”

Mixed neighbourhoods

One way in which cities could adapt is through neighbourhoods that incorporate a diverse mix of office, residential and retail space. The researchers point out that such hybrid neighbourhoods were becoming more popular even before the pandemic. Now that the pandemic has reduced demand for offices, cities have been left with vacant space that could be converted to other uses. “Furthermore,” the report adds, “our research shows that mixed-use neighbourhoods have suffered less during the pandemic than office-dense neighbourhoods have. That resilience gives investors, developers and cities still more reason to engage in placemaking.”

Suburbs can benefit from hybridity as well, observes the report, which champions more multi-family housing as this would accommodate more people than single-family homes do, while it could also help lower carbon emissions. “So long as the apartments are larger and more comfortable than apartments in urban cores, they could attract urbanites seeking space,” say the authors. “Suburban policymakers could consider encouraging multi-family development by adjusting zoning, offering incentives to developers, and re-examining regulations that prevent housing from being built, such as those governing minimum dwelling sizes and window requirements.”

To adapt to the drop-off in demand for traditional office and retail space, developers could also create hybrid buildings. According to the report, the most ambitious vision is a universal, “neutral-use” building – the design, infrastructure and technology of which could be easily modified to serve different uses. Buildings could be designed to accommodate different degrees of collaborative and individual work, or different arrangements of open and closed offices. They could also include technology that promotes flexibility, such as sensors to track patterns of usage that could inform the most suitable hybrid-work approach.

Hybrid buildings would bring at least two advantages, notes the report: “One is that they would protect owners from shifts in preferences that are impossible to predict now. The second relates to a current trend toward shorter leases in the office sector. Because tenants will now be moving in and out more frequently, buildings might become more valuable if they grow more adaptable.”

Modular floor space

Space that is modular and multiuse could also be designed at the floor level. The report suggests that tenants in urban cores – employers and merchants who rent retail space –may have to start “earning the commute” from office workers and shoppers. Thinking in terms of flexibility and adaptability can also help in this regard, it says. Hospitality-oriented workplaces might be one way of attracting employees back to the office, while modular spaces might be configured to adapt to changes in work patterns from week to week.

The report concludes: “For floors – as for buildings and neighbourhoods – turning empty spaces into hybrid places may not simply be a way to counter the damage wrought by the pandemic. It could be a way to transform superstar cities and prepare them for a dynamic, prosperous future.”

This report was edited by Benjamin Plotinsky, a senior editor at the McKinsey Global Institute in Washington, DC.