How Municipal Finance Creates Regional Shopping Centers

Despite the benefits of locally owned businesses over chain retail and big-box stores, many cities still strive build regional shopping centers which require major chain anchor tenants. By in large, cities rely upon sales tax to fund municipal services, especially in states like California which suppress property tax revenue. Of course cities have other sources of revenue, such as Transient Occupancy Tax (TOT) and developer fees, but sales tax is a major source of municipal revenue for most cities.

Adding small, neighborhood retail centers generally don’t increase sales tax revenue for a city. For the most part, the shops in a neighborhood retail center are interchangeable. Each one has a grocery store, a pharmacy, a dry cleaners, a couple of restaurants, and a liquor or convenience store. As their name implies, neighborhood retail centers serve the neighborhood they are located in. Rarely will people go out of their way to shop at a neighborhood retail center since all of the same stores can be found closer to their own neighborhood.

Regional shopping centers are different because they do attract residents from other neighborhoods and cities, bringing with them sales tax revenue that otherwise would have gone somewhere else. This is why regional shopping centers are so often located at the city border or adjacent to major thoroughfares, so that they are convenient for residents of other cities to access and shop. This is the major reason why cities try to attract regional shopping centers, and to consolidate local community and neighborhood retail into these larger centers that will create a regional draw.

The downside to consolidating community and neighborhood retail into regional centers is that they become unwalkable and car-dependant, both for the local residents and often for shoppers within the center. Instead of having a local shopping center within a short walk from home, regional shopping centers require residents to drive to the edge of town in order to do their shopping. In addition, the financing requirements for these larger regional shopping centers create additional negative externalities for communities and create an effective barrier for local business.

Regional shopping centers are expensive to build. They require the purchase of large parcels of land, the construction of hundreds of thousands of square feet of retail space, and hundreds or thousands of parking spaces. In order to construct these large centers, developers need to secure considerable amounts of financing from banks, and the banks want to be reasonably sure they will be paid back for those loans. In order to be confident that the developer won’t default on the loan, the banks require that the developer secure leases with national chain credit tenants. These are tenants like Starbucks and McDonalds, Target and WalMart. These are not tenants that will break their lease due to bankruptcy. If they break their lease, at least they will pay a termination penalty which will cover the rent until another tenant can be secured (hopefully).

Not only do the banks require that regional shopping centers include a large cross-section of large chains, but the financing costs on such large amounts of borrowed money ensure that the developer must charge relatively high rents to cover their debt service. These high rents often price out small local businesses. Since cities discourage community and neighborhood retail centers in favor of these regional center, and small local businesses can’t afford the rents in the regional centers, it makes it nearly impossible for a new business to gain a foothold and grow in a community.

To enable the construction of smaller, more walkable retail centers which can support local businesses, cities must switch away from a reliance on sales tax revenue to fund services. Additionally, communities must create local financial institutions that will support developers that support local business. If smaller retail centers were permitted by cities developers wouldn’t need to borrow as much capital for acquisition and construction. Once developers don’t need as much capital, local financial institutions would be able to provide those loans. But none of this can happen so long as cities rely upon an unsustainable sale tax model to fund basic city services.