Lecture 1: 9.00 - 11.00 July 4, 2007 Dimetic workshop Pécs, Hungary

1. NETHERLANDS INSTITUTE FOR SPATIAL RESEARCH Modeling the spatial pattern of economic activities in the New Economic Geography I Mark Thissen Lecture 1: 9.00 - 11.00 July 4, 2007 Dimetic workshop Pécs, Hungary

2. Contents • Introduction to the New Economic Geography • Agglomeration economies: Policy relevance • A NEG application: RAEM a Spatial Applied General Equilibrium model • The size of agglomeration effects • Policy implications

3. NEG and Economies of Agglomeration: Literature Overview Baldwin, R., Forslid, R., Martin, P., Ottaviano, G., and Robert-Nicoud, F. (2003), Economic Geography and Public Policy, Princeton University Press, Princeton, New Jersey. Fujita, M., and Thisse J.F. (2002), Economics of Agglomeration: Cities, Industrial Location and Regional Growth, Cambridge University Press, Cambridge. Krugman, P. (1980,1991), Several Articles. Labour market Pissarides, C.A. (2000), Equilibrium Unemployment Theory, MIT Press, Cambridge Massachussetts. Applied Spatial CGE and Monopolistic competition Venables, A.J. and M.Gasiorek, 1996, Evaluating Regional Infrastructure: A Computable Equilibrium Approach, Mimeo, London School of Economics, UK Venables, A. (1996), Equilibrium Locations of Vertically Linked Industries, International Economic Review 37, pp. 341-359.

4. NEG: Stylized facts • Agglomerations; city’s and size differences • Income and productivity differences among region’s • Trade; comparable products (intra-sector trade) • - Yellow and green pencils

5. Space and perfect competition: The spatial impossibility theorem • Homogeneous space • No trade because of transport costs • No cities because of land prices • “Back-yard capitalism” • Solutions • Homogeneous space and indivisibilities • No equilibrium possible (people move or firms move) • Heterogeneous space • The rise and decline of cities (explanation and why not more often?; no path dependency) • Are spatial differences large enough • Intra-sector trade

6. NEG: Imperfect competition and economies of scale • Love of Variety • Demand for slightly different (unique) products • Consequence: Economies of scale and market power • Monopolistic competition • Many different firms and products • Endogenous number of firms

7. NEG: Why Cities and Agglomerations • Agglomeration effects: Locate close to large market • Market-access: firms minimize transport costs • Variety effect: benefit of many varieties • Cost of living effect: consumers minimize transport costs • Dispersion effects: Locate far away from large market • Market-crowding: firms try to escape competition • Housing costs: consumers search for low housing prices • Congestion: communication and transaction costs

8. NEG, Economics in Space and Time Welfare Accessibility Capital Infrastructure investment Transport innovations Industrial investment

9. Infrastructure and NEG: An Example Congestion Versus Space

10. The Firm and Agglomeration effects

11. The Firm: Increasing city size

12. The Firm: A new road

13. Agglomeration economies: Spatial Dynamics over time. • Urbanisation and agglomeration • In the presence of agglomeration effects there are large gains to be made by increasing agglomeration size. • There is place for different size of agglomerations at different locations (not only one big agglomeration). • Multiple solutions and path dependency. • However: First Welfare Theorem is no longer valid • External effects of our behaviour are not taken into account in our decisions. These effects may be negative or positive. • Negative outcomes if there are agglomeration forces driving migration with strong congestion effects. • The dynamics of the path determine the outcomes via path dependency. • Other markets?

14. Agglomeration economies: Policy relevance • First Welfare Theorem • We Need a Government! • Spatial Planning • Housing and city size; construction for the unemployed • Value of open space and the environment • Social Policy • Supporting the perifery: Poor scientists and Rich cleaning ladies? • Infrastructure • Making Agglomerations

15. Infrastructure: Roads to development? • How large are agglomeration economies in the Netherlands? • - Benefits of infrastructure projects only based on demand curve? • How does accessibility affect economies of agglomeration? • - Should we open up the periphery? • Where are the largest benefits from agglomeration economies? • - Which road improvements give us the largest additional benefits

16. NEG: RAEM A Regional Applied Equilibrium Model for the Netherlands Imperfect competition • Production: Cobb Douglas • Intermediate Varieties • Consumption: Varieties • Market: Monopolistic competition • Transport: Separate sector • (no iceberg costs) • Labour: Search behavior

17. Indirect effects: Internalized External Effects • Varieties on Consumption and product markets # varieties production/utility Amount of variety Substitution elasticity • Labour market (Spatial Beveridge curve) unemployed commuting Vacancies travel time

18. The Empirical Research: RAEM • Estimate ‘Direct Effect’ by use of transport demand function • Direct effect: Benefit to all users of roads • Equals perfect competition outcome • Regions • Region connectivity (40 simulations) • Between regions (1600 simulations) • Estimate ‘Total Effect’ with RAEM model • NEG and Labour market imperfections • results: • Multiplier = total effect divided by direct effect

19. Multiplier = total effect divided by direct effect • indicator for: • the size of the agglomeration effect • All multipliers would be equal to 1 in the absence of agglomeration effects and imperfect markets • The return on infrastructure investment • Investments in infrastructure in the Netherlands are based on so-called direct effects. Marginal direct effects are expected to be equal in equilibrium and proportional to the costs of Infrastructure

20. Results Regional Analysis (Commuting) A U R • Strong agglomeration economies in “Randstad” • Amsterdam • Rotterdam • Utrecht • Negative effects • Pushing labour out of agglomeration

21. Amsterdam versus Zaanstreek Out-Commuting In-Commuting Commuting • The Zaanstreek Labor market • Difference in Out- and In-commuting • Total effect lower (double counting internal commuting)

22. Results Inter-Regional Analysis (Commuting) • Arnhem-Nijmegen • Agglomeration economies in Regions • Shift of Jobs • Identify agglomerations • Definition (National) • Inflows are important • No Rotterdam

23. Inter-Regional Analysis (Commuting & Trade) • Longer distances important • Regional specialization and economies of agglomeration • Intra-regional connection less important • Relations to the east more important • Agglomeration larger • Randstad

24. Main Roads • Commuting & Freight • Commuting

25. Conclusions • Agglomeration economies are important in the Netherlands, with Amsterdam the Core agglomeration. • Short distances within cities are more important for commuting than longer distances • Spatial Shift of jobs • Long distances are more important for trade in goods • Specialization and Agglomeration • Underestimation of benefits: • Multipliers on important roads between 1.25 and 1.75 • Overestimation of benefits: • Mutlipliers on non-important roads between 0.25 and 0.75

26. Questions on NEG and emperics • Migration and agglomeration effects. Are congestion effects taking over? What about the first welfare theorem? In other words: are the benefits of the migrant still larger then the disbenefits of the people in the agglomeration. • Regional distribution and Governance. Do we get rich people and poor regions or vice versa? • Agglomeration effects are due to what? We need more theory and more empirics! • Knowledge spillovers? • Linkages? • Labour market?