Monday, October 13, 2008

Locations Are Strategies

From Nobel winner Paul Krugman's 1998 summary of trends in economic geography [PDF]:

EVOLUTION. Interesting stories about economic geography often seem to imply multiple equilibria. Suppose, for example, that producers want to locate where other producers choose to locate; this immediately suggests some arbitrariness about where they actually end up. But which equilibrium does the economy select?

New economic geography models typically assume an ad hoc process of adjustment, in which factors of production move gradually toward locations that offer higher current real returns. This sort of dynamic process was initially proposed apologetically, since it neglects the role of expectations.

But it is possible to regard models of geography as games in which actors choose locations rather than strategies—or rather, in which locations are strategies—in which case one is engaged not in old-fashioned static expectations analysis but rather in state-of-the-art evolutionary game theory!

(To middle-brow modelers like myself, it sometimes seems that the main contribution of evolutionary game theory has been to relegitimize those little arrows we always wanted to draw on our diagrams.)
This is one paragraph in the original document; I added the extra breaks, to make it read a little more like one of Krugman's NYT columns.

The broader concerns of the article itself are fascinating:
In the case of high transport costs, there is relatively little interregional trade. So the wages workers can earn depend mainly on the amount of local competition and are thus decreasing in the number of other workers in the same region. On the other hand, when transport costs are low, a typical firm sells extensively in both regions. But since it has better access to markets if it is located in the region with the larger population, it can afford to pay higher wages—and the purchasing power of these wages is also higher because workers have better access to consumer goods. So in that case real wages are increasing in a region’s population...

[O]ne of the appealing features of the new economic geography: it easily allows
one to work through interesting “imaginary histories.” Suppose, for example, that we imagine an economy that starts with high transport costs and therefore with an even division of manufacturing between regions, a situation illustrated by the point labelled A. Then suppose that transport costs were gradually to fall. When the economy reached B, it would begin a cumulative process, in which a growing concentration of manufacturing in one region would lead to a still larger concentration of manufacturing in that region. That is, the economy would spontaneously organize itself into a core-periphery geography.

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