Regional Economics
George Horváth
Department of Environmental Economics
george@eik.bme.hu
The origins of Regional Economics
• Spatial development and settlement theory did not form
part of early Political Economy
• Early economic theory focused on a „one-point
economy”
• Most significant problems were value, distribution issues
and taxation
• First efforts in regional economics were taken by
economically trained industrialists, agriculturalists and
transport professionals
• They encountered the rules and decision-making
problems of regional economics during their
professional work
• This original interdisciplinarity is still present
1
Formulating regional economic theory
Formulation of Economic Theory follows a
historical logic:
1. First: agricultural issues, second: locating industry, third:
locating all other sectors. Transportation as the means
of bridging distances has also been treated in regional
economics from the early days.
2. Regional economics first dealt with locating individual
businesses, i.e.: microeconomic approach. Only later
did it start focusing on locating several businesses, i.e.:
macroeconomic approach.
3. Regional economics treated competitive scenarios
first, later it dealt with monopolistic situations too,
eventually dealing with the problem of externalities.
2
Properties of spatiality and its
relationship to spatial development
Aspects of the spatial dimension
Spatial and geographic
adjacency
Spatial and geographic
dissimilarity
Spatial and geographic
distance and mobility
Spatial and geographic
extent and fragmentation
}
}
}
Urban and Spatial
planning
Spatial development,
Regional policy
Spatial and Territorial
administration
3
Comparing the „one-point economy
and the spatially extensive economy
categories
one-point
spatially extensive
Market
Uniform, homogenous
(same prices)
Near-average
Structured and dissimilar
in space
Spatially dissimilar (local)
Economic reactions
Perfect (on both Input
and Product markets)
Identical
Market information
Perfect
Imperfect (geographic
monopoly)
Different (local culture
and particularities)
Spatially asymmetric
Market behaviour
Rational
Consumer preferences
Homogenous
Substitutability
Unlimited
Economic equilibrium
Equilibrium is the
standard state
Input (costs)
Competition
Spatially restricted
rational
Spatially inhomogenous
Limited by spatial
allocation of resources
Disequilibrium is the
standard state
4
Regional economics among sciences
Economic Sciences
Regional Economics
Geographic, technical
and legal sciences
5
The elements of Regional Economics
• Location theory
• Theory of Economic
Space (spatial structures,
city and settlement
networks, markets in
space, agglomerations)
• Regions, regional
economic growth and
development in space
}
Microeconomics
}
Macroeconomics
6
Location theories and locating factors
•
•
•
•
•
Theory of agricultural location (von Thünen)
Theory of industrial location (Weber)
Location of commerce
Location of services
Theory of choosing a habitation location
(Alonso)
7
Different interpretations of Location
National level:
•
Tax regime, customs, tariffs and duties
•
Economic and legal regulations
•
Economic and population growth
•
Political and economic stability
•
EU membership
Regional level
•
Quantity and qualification of workforce
•
Proximity and access to motorways
•
Vicinity of national frontier
•
Economic structure
Local level
•
Price and appropriateness of the real estate (land)
•
Accessibility of utilities
•
Local taxes and subventions
•
Local industry
•
Cooperative opportunities
•
Schools, universities and training facilities
8
Weber’s theory of Industrial Location
• Logically speaking, the first regional
economic theories were on Industrial
Locations (historically speaking, though, the
first ones were on agricultural locations.)
• The founder of the Economic Theories of
Industrial Location was Alfred Weber
• His magnum opus was published in 1909:
„On the Locations of the Industries” (Über
den Standort der Industrien)
9
Locative factors in Weber’s theory
• Such factors which transform the conditions of
productions favourably to producers
(agglomerative factors)
• Benefits arising from the proximity of either
resources (raw materials) or markets
(transportation costs)
10
Effects and benefits in Weber’s Theory
• Agglomerative benefits and transport costs act
in opposing directions
• Their equilibrium determines the optimal
location
• The agglomerative effect acts towards the
highest concentration of activity…
• …but the requirement that locations should
be in the proximity of resources and labour, as
well as consumers and markets, acts in the
opposing direction.
11
Agglomerative benefits
1. Benefits arising from an increase in size of a
particular plant (economies of scale)
2. Benefits arising from the increase in the
number of businesses in the same economic
sector (specialised suppliers, qualified work
force, availability of management and technical
know-how), known as „localisation benefits”
3. Urbanisational benefits arising from the
infrastructure and size of a big city
12
Agglomerative drawbacks
1. Increased price of work force and required
land
2. Drawbacks of congestion (noise, pollution,
criminality, social problems)
3. As concentration increases, some of the
markets will become more distant, thus
increasing transportation costs
13
Main groups of Industrial Location
Theories
Cost Minimising theories
• Price is a given factor, producers have no
influence
• Location of competitive companies does not
affect sales
• An increase in profit can only be achieved by
cutting production and transport costs
Weber’s Theory is a cost minimising theory
14
Main groups of Industrial Location
Theories
Profit Maximising theories
• Price is not a given factor; it depends on
– The location of customers
– The location of producers
– The location of competitive firms
– The strategy of competitive firms
• Demand is not focussed in a single point, but
rather, it is spatially distributed
15
Examining factors: transportation
• Some raw materials are to be transported,
others are not (air, water, etc.)
• Non-transport cost differences exist in raw
materials, intermediary and end-products, e.g.:
– Depth of mines
– Quality of raw materials
• All non-transport cost differences are
converted into transport costs
• This is a „reverse iceberg” model
16
Suppositions in Weber’s model
• Demand for a product exists at a single point in
space
• Two kinds of raw materials exist, in two points,
removed from both the market and each other
• The market is perfectly competitive
• The sale price of the product is given and
inelastic
• All possible locations implement the same
technology, therefore costs incurred must be
the same everywhere
17
Question: where to settle industry?
• Weber’s Theory deals with the problem of
finding an optimal location for industry.
• What are the scenarios?
– Locating the industry near the market
– Locating it near the raw material
– Find an intermediary „compromise” location
18
Scenario I: locating near the market
•
An industry will settle near the consumer market, if
– The final product is heavier than the aggregate weight of the
raw materials, energy sources and intermediary products, or
otherwise, if
– The final product is not heavier than the aggregate weight,
but transportation costs of the final product are so high that
they would over-compensate the difference in weight.
•
Typical examples:
– Beverages (high water demand)
– Paints, thinners, etc. (again, high water demand)
– Perishable goods (foods, etc.)
19
Scenario 2: locating near raw materials
•
•
An industry will settle near the raw materials or sources
of energy, if the industry is heavily dependent on these.
Examples:
– Construction materials
– Oil refining
– Smelting (blast furnaces)
– Alimentation (flour milling, sugar and canning industry)
20
Scenario 3: other locations?
•
•
•
•
What if the industry does not produce for a single market
only, and/or requires more than just a few raw materials
and energy sources?
If there is no single item (either on the input or output
side) that would dominate the production, where should
we locate the industry?
The solution: finding a compromise location!
How do we define such a location?
21
Defining a compromise location
•
•
Weber uses a formula to define a locative criterion
He defines material indices:
– For each tonne of product, an amount of each component
(raw material, energy, etc.) is needed
– These quantities must be put in during the process
– One tonne of final product is the output
– a1, a2, a3, a4, etc.
•
•
•
Aggregate amount of „quantities” to be moved: ∑ai+1
This amount is called the „weight of the location” (T)
Using these indices, defining a location becomes more
straight forward
22
Three possible locations
1. An industry will be located near an input material if there
exists a material index ai, which exceeds half the sum of
all input weights (i.e.: half of the weight of location, T),
such that ai> T∕2
2. The industry will be located near the product markets if
the weight of the product exceeds half the sum of all input
weights (ie.: half of the weight of location, T), such that 1>
T∕ , or T<2.
2
3. A compromise location will be chosen if none of the
above conditions hold true, i.e.: ai< T∕2 , and 1< T∕2 or T>2.
23
Working with a compromise location
•
•
•
If there is only a single raw material and a single product
market, there cannot exist a third, „intermediary” or
„compromise” location, since one of the material weights
will probably exceed half the location weight.
Should they be exactly equal, choosing an „intermediary”
location is still unlikely to be beneficial, as the costs of
loading and unloading between the two end points (raw
material or the market) will increase costs. Even
randomly choosing one will be cheaper.
Compromise locations can only be defined when there
are at least two raw materials and one market, or one
raw material and two markets.
24
Finding a compromise location
Let’s suppose we have…
• Two raw materials (A and B)
• One market (C)
…located geographically as shown below:
A
B
C
25
Finding a compromise location
•
•
We need to find a point P inside the bounding triangle
with the smallest possible associated „import” and
„export” costs.
We’re looking for a certain „centre of mass” of the
triangle, but not the geometric centre of mass.
A
P
B
C
26
Finding a compromise location
•
We’re after a point where the product of the transport tariffs
and the import and export costs
w1t1s1+ w2t2s2 + w3t3s3→min
wi = point-specific import & export weights (material&product
index)
ti = transport tariffs of materials and products
si = distances from the end points, defining the distance from P
A
P
B
C
27
A possible compromise location
A
P
B
C
28
Compromise locations in real life
Let’s suppose that we have two raw
materials and one market, just like before,
A
here,
here,
and here.
B
C
29
A possible compromise location
We do the maths again, and we identify our compromise
location.
A
P
B
C
Let’s see this on our map now.
30
And here it is.
A
P
B
C
Can we spot any problems?
31
Our „optimal” compromise location is in the
middle of nowhere!
•
•
•
No roads.
No railroads.
There aren’t even any towns close by!
A
P
B
C
So can this be „optimal”?
32
Wouldn’t it be more practical to have our
location elsewhere?
Here, because
there’s a road?
Here, because
it’s close to the
river?
A
P
B
C
Here, because
it’s near a town?
Here, because
of the railroad?
Weber’s model can give some strange results.
33
Let’s take a scenario just like before:
A
C
B
Where will we find a compromise location?
34
Weber’s model offers this solution:
A
C
P
B
Surely, this can’t be a feasible location.
35
Associated mathematical problems
• There is no simple „one-step solution” for
determining a compromise location
• An iterative process needs to be carried out,
which takes several additional steps
• There is no single guideline iteration for solving
the problem
• Possible solutions have been published (such as
Harold Kuhn and Robert Kuenne’s solution)
• Even if a compromise location is found, it may
not be practical in real life
36
On the issue of workers
• We need to take into consideration the issue of
workers as well
• We need workers for the factory (obviously)
• Workers tend to „live somewhere”
• At the time of the formulation of the theorem,
commuting was not an everyday phenomenon,
so a given workforce was only available locally
• From Weber’s point of view, the advantages and
disadvantages arising from the level of training
of the workforce would only be reflected in
their wages
37
Weber’s formulation of this question
• Let’s suppose that there exists another city,
where wages are lower compared to the
optimal (compromise) location (which was
determined through transport costs), then
• Considering possible savings in costs and
expenses, would it be worthwhile for the
industry to locate nearer to where the
workforce lives (and bear the additional
transport costs on both input and output side)?
38
Weber’s solution
• As previously, Weber projects labour costs on a
quantity of final product (one tonne)
• He first calculates the amount of labour
required for the production of a tonne of final
product.
• The then divides this quantity by the aggregate
weight of all materials going in and out of the
factory, i.e.: the weight of the location
• We get an index number, which he calls labour
coefficient (Arbeitskoeffizient, A)
• We can now directly work with labour costs
39
What this means
• If A1 is the labour coefficient at the „optimal”
(with the supposedly higher labour costs), and
• A2 is the labour coefficient at the city with the
supposedly lower labour costs, then
• The difference A1-A2 will indicate the savings in
labour expenditure.
40
Working this out with formulae
• If the new location would be at a distance of S
kilometres from the optimal location, and the
cost of transportation would be t per tonne, a
switch of location would only be worthwhile, if
T∙S∙t < A1-A2
• In such a situation, we would replace some of
the labour costs with additional transport
costs.
• Hopefully, this would result in a saving.
• If not, DON’T do it!
• This substitution effect has become a
41
fundamental part of location theories.
About market effects
• When treating labour, it becomes obvious that
Weber does not consider the effect companies
have on wages:
• If a new factory locates in a town, this will have
an effect on wages (increase) so the calculated
savings on wages will not be realised.
• Even though Weber’s Model is considered to be
a cost-minimising approach, by disregarding
market responses we cannot even calculate
cost savings.
42
Agglomeration effects
ag· glom· er· ate, vb:
to form or be formed into a mass or cluster
• as firms in related industries cluster together,
costs of production may decline significantly
– firms have competing multiple suppliers
– greater specialization and division of labour
• Even when competitors agglomerate, benefits
may be reaped, as the cluster attracts more
suppliers and buyers
• Cities grow because of such effects!
• It relates to two main ideas:
– Economies of Scale
– Network Effects
43
Advantages of agglomeration
• Influx of new information and practices
• This can bring down fixed costs of production
• As fixed costs fall, a stage of economies of scale
is reached
44
Disdvantages of agglomeration
• City growth may only be persistent if
advantages constantly outweigh disadvantages
• Adverse effects may appear
– Congestion
– Pollution
– Criminality
– Other negative externalities of clustering
• Pricing power of the firms will decrease, as
shortage of labour becomes apparent
45
Back to Weber’s Model
According to Weber, companies have two
alternative paths to take:
1. Establish two separate factories, each near its own
suppliers and markets, at optimal distances between the
two
2. Establish a single factory with the combined production
capacity of the hypothetical two factories, which would
be located at a not optimal site, but the additional
transport costs would be covered by the savings through
economies of scale
Which alternative should one choose?
46
Sounds familiar?
•
•
•
It should; the logic of solving this problem is exactly the
same as the problem of labour.
A move away from the optimal location results in an
increase in costs.
However, savings will be realised in some fixed costs that
don’t increase with size:
– Administration
– Buildings and real estate
– Production and development costs
– Marketing
•
If the benefits of economies of scale outweigh the losses
through locating away from the optimum, it’s worthwile
to build a larger factory
47
Working this out with formulae
• Let’s consider fixed costs C and the mass of
products from each plant W1 and W2
• As previously, T is the weight of the location, S
is the distance from our
• The criterion for building a larger factory is
therefore
2C
C
T St 

W1  W2 W1  W2
48
To wrap up Weber’s Model
• Weber considers each factor one after the
other.
• If we began by leaving the optimal location for
benefits of cheaper labour, we then start out
from this new point when we consider the
effects of agglomeration and economies of scale
• Savings have to cover an increase in the cost of
labour as well!
49
To wrap up Weber’s Model
• Even though it has a number of known flaws,
Weber’s model remains a cornerstone in
regional economics
• It has been a logical guideline for locating
industry for several decades
• Even today it has some applications
49