1 Regional Policy

2 Preliminary questions Check how unequal the income distribution among EU countries is. Why is important to reduce income disparities among EU member states? How can trade modify the location of industries across Europe? What’s the role of the education level of the citizens of a country in determining the effects of trade on economic activity concentration?

3 EU economic geography

4 RegionsLand share % Population share % GDP share % Relative Unemploy ment rate ( EU27=100 ) Relative Youth unemploy ment ( EU27=100 ) Share of population with income above EU27 average Core Intermedi ate Peripheral Source: EU Commission 2001

5 Geographic income inequality 2002 Luxembourg is 110% richer than average Bulgaria only 26% of average

6 Ark, Mon, West V, Miss Luxemburg Ireland Denmark NL Austria Belgium EU

7 Change in income standard deviation EU Italy Belgium Netherla nds German y Austria Greece Portugal Spain Finland France Sweden Ireland UK Source: EU commission 1996 and 2003

8 Geographic income inequality, within nations income distribution even more unequal at regional level. Within nation economic activity is very unequally distributed Income distribution has become: –More equal in EU15 –Less equal within EU15 nations (by region) Richest: Inner London (67000euros GDP pc) Poorest: Lubelskie in Poland (6700euros)

9 Geographic income inequality French example –Ile de France (Paris) has almost 1/3 of all economic activity –Per capita incomes (not shown) are 158% of EU15 average –Mediterranee has 10% of GDP, 12% of population GDP/pop only 86% of EU15 average Outre-Mer are former French colonies (poor islands in Caribbean, etc.)

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11 By looking only at the GDP, we may conclude that EEI had modest impact on the location of economic activity as a whole… changes occurring within nations rather than across nations. BUT EEI may have encouraged clustering of manufacturing by sector rather than by region.

12 Krugman Index: Geographic Specialisation KI tells us what fraction of manufacturing activity would have to change to make the country’s sector-shares line-up with the sector-shares of all other EU15 nations. Most EU nations have became more specialised –EU economies seem to be specialising more in their comparative advantages

13 Summary of facts 1.Europe’s economic activity is highly concentrated geographically at the national level and within nations 2.Geographic Dn of economic activity has become more concentrated within countries (proxy: income percapita) 3.Only modest reallocation of industry across nations 4.Specialization on a sector-by-sector basis 5.Sub-national level: industry more concentrated spatially.

14 Theory 2 major approaches linking economic integration to change in the geographic location of economic activity Comparative advantage suggests nations specialise in sectors in which they have a comparative advantage New Economic Geography suggests that integration tends to concentrate economic activity spatially General idea: –Use c.a. approach to explain cross-nation facts –Use NEG to explain within nation facts

15 We will focus on these two aspects - specialization at the international level and agglomeration within the countries. The first is the standard economic logic that connects European integration and the location of economic activity. The uneven distribution of activity is explained through given “natural differences” among European nations or what economists call comparative advantage. The second focuses on how closer integration encourages the geographic clustering of economic activity.

16 Comparative Advantage and Specialisation Relative labour endowments in Europe 83% above EU average

17 Question Portugal and Germany: What do you expect according to their relative labour endowments? Think of ‘comparative advantage and specialization’

18 Trade liberalization allows nations to specialize in sectors where they have a comparative advantage. This effect of liberalization can have important effects on the location of industry: it encourages specialization nation–by–nation, even without firms moving internationally.

19 Agglomeration & NEG When productive factors can cross borders (international or inter-regional) integration may have very different effects scale economies & trade costs generate forces that encourage geographic clustering of economic activity.

20 Question Give examples of sectors on which there exist scale economies. What about cheese production and car engine production?

21 There are two types of clustering: –"Overall clustering“ = some areas with lots of economic activity, others empty “core-periphery” –"Sectoral clustering" = each sector clusters in one region, but most regions get a cluster

22 Agglomeration & Dispersion Forces Basic idea is that lowering trade costs affect both –Agglomeration forces Tend to lead industry to cluster geographically –Dispersion forces Tent to encourage industry to disperse geographically

23 Agglomeration Forces Many agglomeration forces –Technological spillovers (e.g. silicon valley) –Labour market pooling (e.g. City of London) –Demand linkages (a.k.a backward linkages) –Supply (cost) linkages (a.k.a forward linkages) demand & supply links are clearly affected by economic integration (lower trade costs)

24 1.Some firm moves to big region To have access to a bigger market and reduce trade cost 2. Expenditure Shifting, Firm and its workers spend incomes in big region instead of in small region 3. Market Size Effects: big market gets bigger, small market gets smaller 4. Production Shifting, Due to trade costs firms prefer to locate close to big market. More industry moves to big region Circular Causality & Demand Linkages Market size

25 1. Some firm moves to big region 2. Production Shifting Migrated firms’ output now cheaper in big region & dearer in small region (trade costs) 3. Cost Shifting, Availability of wider range of locally available intermediate goods makes big region cheaper place to produce 4. Production Shifting Some more firms move from small market to big market, attracted by lower costs Circular Causality & Supply Linkages Cost of production

26 Question. Given the benefits of agglomeration for the firm, Why don’t we observe all economic activity to be located in a single place?

27 Dispersion Forces Many forces lead to a tendency of firms to avoid agglomerations of economic activity –Rents and land prices –High cost of other non-traded services (e.g. unskilled labour) –Congestion costs and Local Competition with other firms The NEG focuses on the last one “local competition” since it is clearly related to trade costs –As trade costs fall, distance provides less protection from distant competitors

28 EQUILIBRIUM How European integration affects the equilibrium location of industry? Spatial Dn of economic activity in equilibrium depends upon the balance of the pro- concentration (agglomeration) forces and anti-concentration (dispersion) forces.

29 Agglomeration vs. dispersion forces % firms in big region Agglomeration and dispersion forces Dispersion force Agglomeration forces E A B

30 Effects of integration % firms in big region Agglomeration and dispersion forces Dispersion force Agglomeration forces E Dispersion force with freer trade E’ 100%

31 Question Is there a trade-off between national and regional convergence????

32 EU Regional Policy EU always had poor regions (Mezzogiorno, etc.) –much spending on poor EU regions, but very little by EU (pre 1986) 1973, Ireland (poor at the time joined); 1981, Greece joined but no major reorientation of EU spending priorities. In 1986, Iberian enlargement shifted power in Council and spending priorities changed Enlargement

33 EU Regional Policy For historical reasons, EU has five “Funds”, –Structural Funds: Spent in any qualified region * European Regional Development Fund: infrastructure, job-creating investment, local development, small firms * European Social Found: unemployment * Fisheries guidance (Now this is a separate fund) * Agricultural guidance and guarantee fund: rural development and aid for farmers mainly in less developed regions (Now this is a separate fund) –1 Cohesion Fund. Spent only in poor-4 (Spain, Portugal, Greece and Ireland)

34 EU Regional Policy 3 Funds work together under overall strategy Many programs, initiatives, and objectives, BUT over 90% is spent on three priority “objectives”

35 3 Objectives Objective 1 (about 70% of structural spending). –spending on basic infrastructure and production subsidies in less developed regions –generally defined: regions with incomes less than 75% of the EU average Nordic exceptions (low population density) –There are about 50 “objective 1 regions”; they have about 20% of the EU population.

36 3 Objectives Objective 2 (about 10% of structural spending). –projects in regions whose economies are specialized in declining sectors coal mining, fishing, steel production, etc. –spending should support economic and social “conversion” –About 18% of the Union's population lives in ‘Objective 2” regions.

37 3 Objectives Objective 3 (about 10% of the funding). –measure to modernize national systems of training and employment promotion. –All EU regions excluding objective 1 regions.

38 Guiding principles of allocation The Structural Funds are not spent on projects chosen at the European level. Choice of project and their management are solely the responsibility of the national and regional authorities. As a matter of principle – the so-called additionally principle, Community funding should not be used to economize on national funds (difficult to verify).

39 Political allocation

40 Structural Funds: Eligible areas in EU25 for Objective 1 and 2 between 2000 and 2006 Phasing-out (till 31/12/2005) Objective 1 Phasing-out (till 31/12/2006) Special program Objective 2 Objective 2 partly Phasing-out (till 31/12/2005) Phasing-out partly (till 31/12/2005)

41 Impact of 2004 Enlargement New members are much poorer than EU15 Difficulties –Cost of structural spending could rise substantially –10 new poor nations make some poor regions in EU15 look relatively rich Pushes them above 75% of EU25 average Political power in Council likely to shift spending priorities

42 Impact of 2004 Enlargement Some regions that will pushed above 75% of average will lose Objective 1 status Some, like northern Finland and Sweden are unaffected –Low pop density criteria All of 2004 entrants have less than 75% of EU25 average –Except Cyprus

43 New cohesion policy programs JASPERS: Joint assistance in supporting projects in European regions. JEREMIE: Joint European resources for micro to medium enterprises JESSICA: Joint European support for sustainable investment in city areas Modernisation of public services

44 Question Educational level in all EU nations is rising. How would this affect the spatial allocation of production??? Considering that low-skill intensive sectors generate lower added-value, why is important to transfer funds to poorer countries, i.e. to intervene in the natural forces of agglomeration and dispersion forces? Assuming ethical arguments are not enough, which rational and selfish arguments may justify the reduction of inequality among EU members?