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Specialization and concentration

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Specialization and concentration: a note on theory and evidenceAbstractIntroduction and motivationThe model and its predictionFig1Previous literature and robustnessMeasuring specialization and concentration in empirical researchEmpirical evidence and robustnessFig2ConclusionsAcknowledgementsReferencesAbstract We study the prediction of the theory in Rossi-Hansberg [Rossi-Hans-berg E (2005) Am Econ Rev 95(5):1464–1491] that, under quite general circum-stances, lower transport costs increase specialization of regions or countries anddecrease (regional) concentration of industries. This prediction contradicts thecontention of other models and many empirical papers that specialization andconcentration should move in parallel. We use two data sets on manufacturingindustries across US States and EU member countries to show specialization andconcentration do not develop in parallel. The empirical data replicates some of thefeatures of the divergence predicted in the model.Keywords Spatial model of trade Æ Concentration of industries ÆSpecialization of countries Æ European integration Æ NAFTAJEL L16 Æ R11 Æ R12 Æ R131 Introduction and motivationSpecialization of countries in particular sectors and concentration of industries inregions or countries has long been treated as closely related economic phenomena, ifnot identical.1This contention had been at least supported by the fact that empiricalK. Aiginger (&)Austrian Institute of Economic Research WIFO, P.O. Box 91, Vienna A-1103, Austriae-mail: [email protected]. Rossi-HansbergPrinceton University, 309 Fisher Hall, Princeton, NJ 08544-1021, USAe-mail: [email protected] most prominent example maybe is in Krugman’s seminal book (Krugman 1991a, b, p. 77 ff),where data on specialization in four US regions and four large European countries are used asbackground for the analyses of regional concentration.123Empirica (2006) 33:255–266DOI 10.1007/s10663-006-9023-yORIGINAL PAPERSpecialization and concentration: a note on theory andevidenceKarl Aiginger Æ Esteban Rossi-HansbergPublished online: 27 October 2006Ó Springer Science+Business Media B.V. 2006studies use the same matrix of country and industry shares, of some economicactivity variable like value added, production or employment, to calculate indicatorson specialization as well as on concentration.2In models with two countries and twoindustries, any increase (decrease) in specialization is tautologically replicated by aparallel increase (decrease) in concentration. Empirical studies then often focuseither on specialization or concentration, sometimes intentionally, sometimes byassuming that these would develop in parallel.In the literature, models explaining specialization originated mainly in tradetheory, while models explaining concentration came from location theory. Tradi-tional trade theory predicts that countries specialize in products using intensively therelatively abundant input factor. Location theory discusses the reasons foragglomeration and dispersion. While economies of scale, as well as forward andbackward linkages, favor concentration, congestion, low costs of immobile factors inthe periphery and transport cost, favor dispersion. The theoretical strands are con-verging in the ‘‘New Trade Theory’’ and in the ‘‘New Economic Geography’’, bothemphasizing economies of scales and imperfectly competitive markets. Particularinterest has been raised by a purported inverted U-shaped relationship in special-ization and concentration in the ‘‘New Economic Geography’’: where a surprisingnumber of models predict that declining transport cost would first foster special-ization and concentration, but then for very low transport costs lead to dispersion.In the policy debate, increasing specialization has been welcomed, for example inthe European or North American integration process, since it increases productivity.Rising concentration on the other hand, specifically concentration of economicactivities in the core or in the North, has been more controversial as it may aggravateasymmetries or differences in per capita income. This danger has been widely dis-cussed in the course of European integration, where some economists expressed thefear that activities in the core may increase at the cost of the periphery (Krugman1991a, b; Hallet 2000).This note is structured as follows. Section ‘‘The model and its prediction’’ dis-cusses the basic setup of the model in Rossi-Hansberg (2005), and illustrates theimplication that specialization and concentration do go in opposite directions whentransport cost change. In particular, lower transport costs imply higher specializationand lower concentration. The model features two industries, a continuum of regions,iceberg type transport costs and agglomeration effects via production externalities.Section ‘‘Previous literature and robustness’’ discusses the differences between thisprediction and the ‘‘New Economic Geography’’ prediction where concentrationand specialization move in most models in parallel. Section ‘‘Measuring specializa-tion and concentration in empirical research’’ present two data sets for industriesacross US states and EU-member countries, and choose indicators on specializationand concentration. The main results for US and Europe are presented in section‘‘Empirical evidence and robustness’’, while section ‘‘Conclusions’’ concludes.2To be more specific the specialization of a given country or region is a distribution measure on itsindustry shares, and a country is said to be specialized if a number of industries produce a large shareof the particular activity. Concentration of a specific industry is a distribution measure on its countryshares, and an industry is said to be regionally concentrated if a few regions produce a large share ofits value added. Overall specialization (e.g. of the US or Europe) is then a weighted or unweightedaverage over the regions and overall concentration over industries.256 Empirica (2006) 33:255–2661232 The model and its predictionIn this section, we describe briefly the model in Rossi-Hansberg (2005) and explainwhy this model predicts that decreases in transport costs will in general result inincreases in concentration and decreases in specialization.Consider a finite region with a border at the west (north) given by –S and one atthe east (south) given by S. That is, the spatial structure is a line from


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