Evolutionary Economic Geography

Location of production and the European Union

Miroslav Jovanovic

• Publisher: Routledge
• Year: 2008
• Print ISBN:
  9780415632355
• eBook ISBN:
  9781134098453
• Topic: Business
• Subtopic: Business General
• Index: Business

The purpose of this book is to provide a guided tour through the theoretical foundations of spatial locations of firms and industries in an evolutionary economic framework. It addresses the issues of how a location of business in geographical space is selected and where economic activity may (re)locate in the future. The analysis is in the context

1
Introduction

Does the eagle mount up at your command, And make its nest on high?

(Job 39:37)

The question and the pressing problem that has troubled economists and others since the seventeenth century is: why do some areas, regions or countries grow faster than others? The spatial location of economic activity in the future is one of the most important and challenging questions in economics. It is relevant not only for the future location of jobs, their quantity and quality, but also for the creation of profit, tax proceeds, exports, public expenditure, urbanisation and the like. Progress in technology, innovation, changes in demand and certain moves towards a liberal economic policy create new challenges for theorists, policy-makers and business executives. As certain new and a number of old economic activities in manufacturing and services become footloose, highly mobile, fragmentable and internationally connected, one of the most demanding and intricate questions in such a situation is where firms and industries will locate, relocate or stay.

Alan Greenspan, the former chairman of the United States (US) Federal Reserve Board, and a prominent policy-maker, said to his colleagues: ‘We really do not know how [the economy] works … The old models just are not working’ (Beinhocker, 2006, p. 22). Or in the words of Beinhocker (2006, p. 6):

The economy is a marvel of complexity. Yet no one designed it and no one runs it. There are, of course, CEOs, government officials, international organisations, investors and others who attempt to manage their particular patch of it, but when one steps back and looks at the entirety of the $36.5 trillion global economy, it is clear that no one is really in charge.

Hence, the time is ripe for economic theory to try something different from the past and to move on. The objective of the new evolutionary turn in economics is not to downgrade or to demolish the traditional neoclassical equilibrium approach to economics. Its goal is rather to offer a new research agenda that may prove that economics can do much better than before. The problem is that economics is well known as a field that is notoriously slow to accept new ideas and theories, and hence these new ideas may have a bigger impact only in the decades to come. Another difficulty is that economic complexity and evolutionary economic geography is still only a research agenda, and a cohesive theory is still far away in the future. With this in mind, the approach taken in this book is conceptual. The modest objective is to find, clarify and explain key tendencies rather than to provide definite answers.

The spatial location of a firm is an issue only in an imperfect market. In the absence of both economies of scale (no sunk costs) and transport costs (so that location in space makes no difference), the decision as to where to locate production would be easy. With no market imperfections, firms may be divided into units of any size and operate in all locations without any cost disadvantage.

What orders and directs an economy and its spatial distribution of activities? How is this done? Where does it go to? Views and arguments about these forces are divisive and different. Some consider that it is the prices system that controls a complex system such as an economy. Others prefer conscious action by economic agents and institutions, while yet others are impressed by innovations of all kinds. As an ending point of economic activity, neoclassical economic theory looks at a general equilibrium. Conversely, an evolutionary model is open to an ever-changing and never-ending dynamic process of transformations in an environment of disequilibrium and strong endemic uncertainty.

Economics is passing through one of its most important turning points for a century. The current evolutionary approach to economics offers the possibility of change and an alternative to traditional neoclassical equilibrium theory. This is still a work in progress and an opening for a change in how one thinks about economics. It is an opportunity to change the traditional equilibrium framework of thought.

The evolutionary turn in economics is introducing a much wider openness to other disciplines than was the case just a few decades ago. In the 1970s, economists who were thinking aloud outside the framework of neoclassical equilibrium theory and its models were a rare breed. Even today, they are not too numerous. Nonetheless, certain interdisciplinary conversations take place. The purpose of this book is to contribute to this cross-disciplinary discussion about the spatial location of firms and industries within the evolutionary framework.

A relentless search for profits in a market economy never lets the economic system and its participants remain in stasis. New goods, services, jobs, firms, industries, clusters and production and management technologies are being created, while old or obsolete ones are modified or vanish. This ceaseless ‘creative destruction’ of and within the system makes the economy evolve over real time. Hence, economic evolution is linked with ever-changing and never-ending innovation and disequilibrium within the economic system.

Economic geography was a sleepy backwater for a long time, not because it was uninteresting, but because problems seemed intractable. Evolutionary economic geography studies the origin, changes, direction and speed in the spatial distribution and organisation of production, as well as consumption, in a time perspective. It analyses the dynamic changes in the economic landscape. This field of academic enquiry is multidisciplinary par excellence. It is, however, not (yet) based on a general theory or even a widely accepted system of methodologies and rules. Hence, it offers wide, uncertain but potentially rewarding possibilities for deeper research and analysis.

Economic geography aspires to analyse and describe economic changes and tendencies and their reasons in physical space. It considers the widest array of geographical locations. All societies and market-oriented firms must decide what, for whom, how and where to produce. Our concern in this book is linked with the spatial ‘where’ part of this decision-making process. In this complex situation, the crucial questions for research, analysis, business decisions and economic policy include the following:

• Where will economic activity locate (and stay) in the future?
• What are the dynamics of the development and growth processes?
• Are these processes deterministic or unpredictable? Are they leading towards (a higher-level) equilibrium or is it a perpetual, uncertain and unpredictable process?
• Why is production (and consumption) concentrated in urban areas or regions? Why do urban and other areas differ in size?
• What are the reasons for the uneven spatial distribution of economic activity and prosperity?¹
• Is it smart to keep the existing industries where they are? What is the opportunity cost of doing this?
• Does market expansion through international economic integration encourage agglomeration, clustering, spatial concentration of industries, adjoint locations of linked production and ‘thick’ market effects? Or, alternatively, does agglomeration encourage economic integration?
• Does integration cause convergence or divergence in the geography of production, income levels and/or growth rates in the participating countries?
• How do these forces interact? Where do they lead the economy?
• What is the role and effect of public policy (intervention)?
• What are the current and future properties of economic adjustment (spatial and industry-wide reallocation of resources) to the changing situation?
• Where will ‘hot’ and ‘cold’ spots for the location of business be situated?
• Who will benefit from these developments?

These are all important and difficult issues to analyse and resolve.

Evolution is a process of unfolding, self-transformation and self-organisation; it follows oscillations and the appearance of events in orderly succession over a long period of time. This process is irrevocable, and the historical card, song or CD is played only once. Complexity and evolutionary economics deals with the actions, reactions, competition among various expectations, strategies and whims of economic actors. It is also concerned with the phenomenon of how these fit into the aggregate out-of-equilibrium and everchanging picture. With this in mind, it is clear that relations between economics and evolutionary biology were known and recognised a long time ago. However, these interactions were put aside by many researchers in the field of economics.

Evolutionary economic geography deals with the evolution of economic units (such as firms, industries, clusters, cities, regions, states and integration arrangements among states) in geographical space. It considers not only their location and relocation in physical space, but also their creation, operation in the market, growth and demise over time. For instance, where a firm moves in business and in space depends on the starting position: where was its location and how was it created? Thus, history and expectations may assist in the explanation and comprehension of the (likely or wanted) future.

Evolutionary economic geography differs from the traditional model in several important dimensions. The new evolutionary model makes the case that production specialisation in a given locality is based not only on certain local comparative advantages, but also on a self-reinforcing lock-in effect, path dependence, accumulated knowledge, agglomeration, clustering and linkages (indivisible production). In addition, while the traditional models reason that a reduction in trade costs among locations may favour local specialisation, the new evolutionary economic geography claims that the effect on local specialisation is ambiguous. The final outcome is industryspecific and depends on the functional intra-industry production linkages, market structure, consumer preferences (homogeneity of tastes), factor market (availability and mobility of factors and flexibility in prices) and expectations.

Evolutionary and complexity economics is compounded with constant shocks, uncertainties and dynamics, as well as evolving changes on an immense scale. Persisting disequilibria are a big game in town. One may feel uncomfortable with this situation, but the evidence against it is not convincingly presented. Evolutionary concepts consider economic changes in conditions of bounded rationality. It is a constant search for optimal solutions in conditions of scarcity, competition and endemic uncertainty. The process deals with creation, differentiation, selection (including mistakes), adaptation, innovation, retention, amplification, replication and constant search for creative– destructive optimal solutions in a pool of many and various possibilities.

Compared with neoclassical equilibrium theory, complexity and evolutionary theory of economic behaviour is another general and conceptual look at how the world works. This evolutionary theory is concerned with:

• uncertainty, against which one cannot get insurance;
• (micro-)analysis of endogenous technological change, innovation and their spillovers; and
• non-maximising behaviour of profit-oriented firms.

This introduction sheds light on the continuing importance of research efforts, public debate and the search for appropriate policy to face the challenges of spatial distribution of economic activity in the light of evolutionary changes. Let us now see what theory says about evolutionary economic geography.

Notes

1 The Gini index (Figure 1.1) compares the actual distribution of activities with an even (standard) distribution. It measures the degree of similarity or inequality in a distribution (for example, spatial location of firms or income). This index is a ratio between of area between the Lorenz curve of distribution and the curve of the uniform distribution. Zero measures perfect equality, while perfect inequality corresponds to 1 (one region has all the firms or one person has all the income). Applied to the spatial concentration of firms, this index does not take into account the size of firms. Some industries may be organised in a few large firms (chemicals, finance, car assembly), while others may be composed of a number of small firms (food, textiles).

Figure 1.1 The Gini index

2
Theory

Anyone who hears and obeys these teachings of mine is like a wise person who built a house on solid rock. Rain poured down, rivers flooded, and winds beat against that house. But it did not fall, because it was built on solid rock.

(Matthew 7:24–25)

1 Introduction

Where economic activity will locate in the future is one of the most important and challenging questions in economics. Progress in technology, changes in demand and certain moves towards a liberal economic policy create new challenges for theorists, policy-makers and business executives. As certain new and a number of old economic activities became ‘footloose’, highly mobile, fragmentable and internationally connected, one of the most demanding and intricate questions in such a situation is where firms and industries will locate, relocate or stay.

The purpose of this chapter is to provide an overview of the theoretical foundations of the field of spatial economics, especially its evolutionary side. It considers factors and conditions that influence decisions on where to locate a business or an industry in an evolutionary space. A research agenda (Section 2) is followed by considerations about relations between economics and geography in Section 3. Basic concepts in biology, economics and evolution are found in Section 4. Theories of location (Section 5) are presented without concern about the ownership and control of firms; foreign ownership issues are covered in Chapter 5. Complex systems and evolutionary economics are the focus of Section 6. Section 7 discusses various locational possibilities in space. Select spatial units, i.e. clusters, cities and regions, are analysed in Section 8. The impact of history and expectations on the location of firms and industries is described in Section 9. Section 10 deals with the effect of war on the locational issues, while Section 11 concludes the chapter.

2 Issues

Spatial economics or the geography of production and consumption studies the spatial relation among economic units. This academic field has been separately and often indirectly analysed as a sub-branch of a number of subjects within economics and geography. It has, however, been treated with different intensity and depth within those research disciplines. Contributions are scattered widely across fields which include: microeconomics, planning, development, economic geography, regional science, urban economics, location theory, industrial organisation, international trade,¹ foreign direct investment (FDI), transport economics, business economics, innovation studies, public finance, price theory, imperfect competition, labour economics, environment and resource economics. The (small) common research denominator in all these areas of academic enquiry was the spatial dimension in terms of geometrical distance in metres. This was usually seen as an opportunity (power to be exploited), a medium for interactions and a limitation.

Space and geographical distance may be considered in terms of trade costs, i.e. all costs linked with getting the final good to the consumer (tariffs, quotas, non-tariff barriers [NTBs], transport, storage, distribution, information, contract enforcement...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• List of illustrations
• Foreword
• Preface
• Acknowledgements
• List of abbreviations
• 1 Introduction
• 2 Theory
• 3 Regional policy
• 4 Market structure and location of production
• 5 International firms
• 6 Conclusions
• Annex I
• Annex II
• Annex III
• Bibliography