Diversity and Economic Development: Geography Matters Nicholas Crafts WEHC, Kyoto, August 7, 2015

Diversity It’s not a neoclassical world of β and σ convergence TFP gaps are big and technology is not universal Different locations Different trade specializations Different technologies

Key Questions Who wants to produce what, where and why? What technology is invented and used by whom? Why might globalization promote divergence?

Research Avenues 2 promising recent developments: New Economic Geography Directed Technical Change Ideas have run ahead of empirics; we need to put flesh on the bones A future challenge will be to connect the two

Changes in 19th-Century Economic Geography Industrialization and de-industrialization in globalizing world Concentration of world manufacturing production and, even more so, exports Changes in location influenced by transport costs in the First Unbundling (Baldwin, 2012)

Shares of World Industrial Production (%) China India Western Europe USA 1750 33 24 23 0.1 1830 30 18 34 2 1880 12 3 61 15 1913 4 1 57 32 1953 26 45 2010 25 Sources: Bairoch (1982) and UNIDO (2012)

Shares of World GDP (%) China India Western Europe USA 1820 33 16 23 2 1870 17 12 9 1913 8 19 1950 5 4 26 27 1973 3 22 2010 6 2030 28 11 13 18 2050 29 10 Sources: Maddison (2010) and OECD (2012)

Historiography Lots of explanations for 19th century continental divergence including: Imperialist exploitation (Mandel, 1975) Institutions (Acemoglu et al., 2002) Dutch Disease (Williamson, 2011) Do NEG and DTC add anything?

New Economic Geography: Key Ideas 2nd Nature Geography matters Agglomeration Benefits Market Potential Trade Costs Globalization may imply divergence

Globalization and the Inequality of Nations (Krugman & Venables, 1995) Manufacturing goods are subject to increasing returns and are used both as final and as intermediate goods As trade costs fall, self-reinforcing advantage of larger market leads to country-specific external economies of scale and lower costs for manufacturing in core relative to periphery Eventually, if trade costs fall enough and/or wages in the core rise enough, manufacturing returns to (parts of) the periphery

Location of Manufacturing The ‘manufacturing belt’ in the United States is locked into place by market potential which interacts with scale and linkage effects (Klein & Crafts, 2012) Catalonia industrializes to a much greater extent than the rest of Spain as a result of favourable market size (Roses, 2003) Lancashire dominated the world cotton textile industry based on second nature geography (Crafts and Wolf, 2014)

Market Potential and GDP 100 Years Ago Similar impact on real GDP/person to late 20th century with elasticity of about 0.3 (Liu & Meissner, 2015) Core Europe has much greater market potential than peripheral Asia (and Southern Europe) by the late 19th century Changes in transport networks and shifting spatial distribution of GDP since 1820 ‘lock in’ Europe’s industrial-location advantage

Market Potential (London, 1800 = 100) 1870 1910 SE England 77 757 3411 NW England 61 499 1862 Kwantung 126 319 1075 Madras 80 256 1296 Source: Caruana-Galizia et al. (2015)

Directed Technical Change Acemoglu (1998) (2002) Endogenous-innovation model with bias in technical change reflecting factor endowments Market-size and relative price effects: former dominates in 20th century but latter in 19th century? Innovative effort based on expected profitability; innovations in ‘core’ inappropriate for ‘periphery’ and increase income gaps (Allen, 2012)

The British Industrial Revolution (Allen, 2009) “The Industrial Revolution was invented in Britain in the 18th century because it paid to invent it there” The key is the number of potential adopters to justify fixed costs of R & D Britain was uniquely well placed in terms of relative factor prices (wage/energy price) Cotton textiles became a British exportable (Broadberry & Gupta, 2009) and Lancashire dominated world trade for 100 years

Silver Wages, 1650-1849 (grams/day) Southern England Antwerp Strasbourg China Yanszi India 1650-99 5.6 7.1 3.1 1.4 1700-49 7.0 6.9 2.9 1.5 1750-99 8.3 3.3 1.7 1.2 1800-49 14.6 7.7 8.1 1.8 Sources: Allen (2001); Broadberry and Gupta (2006).

Real Price of Energy (grams of silver/mn. BTU) 1650-99 1700-49 1750-99 1800-49 Western UK Coal 0.58 0.63 0.65 0.50 Western UK Charcoal 1.80 2.49 2.97 2.67 Antwerp Coal 6.41 7.61 6.60 5.51 Canton 5.14 7.66 12.31 Puna 13.12 10.78 Source: Allen (2009)

Connecting NEG and DTC This is a future challenge – no book of blueprints Clearly there are connections: geography potentially affects market size and relative factor prices and thus the direction of technical change (cf. the Habakkuk controversy) Successful agglomerations (cf. Lancashire) and better market access (Head & Mayer, 2006) raise wages