First, I would stress that this is a gnome-sized city, and as gnomes only are 3'-4' tall it would be a city fit for human children, not for human adults. Just the diffrence in size would give it a very strange feel, like Gulliver's Lilliputs.
Or the whole city could be enchanted so as long as you were within the city limits you would actually shrink (like the spell enlarge/reduce, or the potion of diminution). It would give a very strange feeling when the characters suddenly meet man sized gnomes and gnome sized pixies living in giant mushrooms. I also think this fit the gnome mindset perfectly: "why build for larger creatures, when it's easier to shrink visitors?" This is also a very good defense as all attackers would shrink.
Second, I would decide if this is a forest gnome city or a rock gnome city.
If it was a forest gnome city I would add pixies, sprites and other diminutive fey and sylvan creatures, possible even let animals like hedgehogs and badgers live in houses like in Beatrix Potters world.
I would also use the concept of fey glamour, meaning that nothing is what it seems to be. In reality the city is very robust and down to earth boring, but with all the glamour everything look like something in a dream with buildings defying gravity and even looking non-euclidian or like a painting of M.C. Esher.
This is also the perfect place for the faerie market, like in Neil Gaimans Stardust or in the comic book: "Books of Magic III, The Land of Summer's Twilight".
This city is perfect to place partly in the feywild, that would explain why it's so hard to find.
If it was a rock gnome city I would go with the tinkering: the whole city is like a giant transformer and anything within the city could transform to something completely different at any second, and often do (a lighter version of the movie Dark City).
And as the whole city is built of moving parts you won't find the city at the same place twice, as it's actually moving around.
This city would be built more on technical sci-fi solutions than on magical illusions. I would build the city on Artur C. Clarkes quote: "Any sufficiently advanced technology is indistinguishable from magic." Such a city in a fantasy world would be very strange indeed.
