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European
Economic Perspectives 26
Poles
Apart?
As
European integration deepens, will the clustering of people and firms
lead to a polarized Europe, in which some regions buzz with activity
while others decline? A new CEPR Report explains how the right policies
can prevent polarization.
Further
European integration will increase the incentives for regional
specialization of economic activity. People and firms will increasingly
cluster together with those that share their particular know-how and
skills – which may be those within the same industry as conventionally
defined, or simply those that share a functional specialization whatever
the industry in which they are classified. But according to CEPR’s
latest Monitoring European
Integration Report, this specialization need not imply polarization
of Europe into rich and poor regions, those with jobs and those without.
Three main types of outcome are conceivable:
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The
Dispersion Outcome. There could be a
broad dispersion of activity and considerable regional equality:
there will be specialization, but most regions will be able to
specialize in something.
-
The
Concentration Outcome. There could be
strong geographical concentration accompanied by high labour
mobility, leading to depopulation of declining regions but not to
great inequality of per capita income or access to jobs.
-
The
Regional Stagnation Outcome. There
could be long-run polarization of Europe into advanced regions with
high incomes and low unemployment, and depressed regions with low
incomes and high unemployment.
Which
outcome seems most likely? The Report considers the forces favouring
agglomeration, and the contrary forces favouring dispersion. Certain
forces – scale economies, learning effects and various pecuniary and
non-pecuniary externalities – encourage firms to cluster, while others
– factor immobility, congestion externalities and the intrinsic
diversity of people’s preferences – tend to keep firms dispersed.
Whether Europe becomes more concentrated or dispersed depends on the
balance between these forces, as well as on the various barriers erected
to prevent people and firms from acting under their influence.
The
Report stresses that what matters is not just the mobility of the
various factors of production – labour, capital and entrepreneurship
– but also their relative mobility, since their location decisions
depend on each other. It makes all the difference in the world whether
jobs follow people or people follow jobs – or indeed, if neither
follows the other.
The
Report examines the mobility of firms and the mobility of labour in
Europe. The evidence it uncovers strongly implies that the Concentration
Outcome is very unlikely. Evidence from the investment behaviour of
multinational firms suggests that agglomeration gains are significant
but not overwhelming, and can be offset by the higher costs of operating
in areas where labour and public goods are scarce. At the same time,
labour mobility is low in Europe and has even declined in recent years.
So
will Europe experience Dispersion or Regional Stagnation? This is still
unclear. But it is clear that misguided regional policies, which try but
fail to freeze existing patterns of economic activity, can paradoxically
increase the likelihood of the very polarization they seek to prevent.
Wage subsidies and discretionary state aids, for example, may discourage
people and firms from seeking out the new opportunities that are central
to generating innovation, employment and growth.
Nevertheless,
both the Report’s evidence on the mobility of firms and the contrast
it draws between the successful development policies of Ireland and the
unsuccessful regional policies of the Italian Mezzogiorno suggest that
government policy has an important role to play in preventing
polarization. Firms locate not just according to comparative labour
costs and other country endowments, but also in pursuit of skilled and
educated labour, and clusters of know-how and technical ability, both
features of a country that can be strongly influenced by policy.
The
evidence on firm mobility and the experiences of Ireland and the Italian
Mezzogiorno also strongly suggest that the process is not a zero-sum
game: one region’s success does not have to be at the expense of
another. This is particularly true because of the character of the
policies that work: they are ones that build up a region’s productive
skills rather than merely allow it to bid for business more cheaply. The
essential components of a successful policy include:
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Public
investment in a skilled and educated workforce – this is important
not just because skilled workers are more productive, but also
because better educated workers can benefit more from the transfer
of know-how between firms that takes place in local agglomerations.
They are also more mobile and hence more likely to shift from low to
high yield activities.
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A
tax and regulatory environment that encourages entrepreneurship –
this does not necessarily mean very low profit taxes (though they
may help) but it certainly requires a simple and predictable tax
structure, and a clear link between the taxes firms pay and the
benefits they perceive from locating where they do.
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Labour
market policies that encourage wage flexibility in response to
economic shocks – this is especially important within the euro
zone, ensuring that wages will not fall out of line with
productivity trends and undermine regional competitiveness.
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Redistributive
policies that diminish workers’ fear of unemployment without
acting as a disincentive for geographical mobility – this means
using the tax system rather than public employment and subsidies to
firms as a method of redistributing income.
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Acceptance
and encouragement by policy-makers of geographical clustering by
firms using related skills.
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Reduced
reliance on policies to support existing firms in difficulty, or
simply to compensate firms for operating in an adverse environment
without making any attempt to improve that environment.
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Policy
consistency over time.
These
are all ingredients of a policy environment that is good for growth as
well as for regional convergence. The Report’s most central message is
that growth and cohesion are not enemies; unless misguided policies
determine otherwise, they are allies.
This
article summarizes ‘Integration and the Regions of Europe: How the
Right Policies Can Prevent Polarization: Monitoring
European Integration 10’ by Pontus Braunerhjelm, Riccardo Faini,
Victor Norman, Frances Ruane and Paul Seabright (CEPR, 2000).
Recent MEI
Reports:
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Xavier Vives
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Charles Bean, Samuel Bentolila, Giuseppe Bertola and Juan J Dolado
EMU:
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