Cities and Agglomeration Economies

by: Carlos Felipe Holguín Isaza

Cities strengthen human relations and enterprises through multiple avenues, some of which are now quantifiable thanks to the advances in statistical and computing methods. One of these avenues is through agglomeration economies, where people and enterprises cluster geographically to boost productivity (Duranton & Kerr, 2015). As stated by the W. E. Upjohn Institute for Employment Research, this form of agglomeration, especially around urban centers, offers three key benefits:

Sharing: How cities have traditionally boosted productivity is through the reduction of production and retail costs associated with transportation. This has been achieved thanks to urban infrastructure such as roads, metro lines, access to airports, and seaports. Consequently, firms and workers tend to strategically locate themselves around the dense transportation networks usually found in cities.

Matching: The impact of agglomerations has been a recurring topic in labor economics because they create better job opportunities for better-educated people. By having access to a wider pool of applicants, firms can select applicants based on the specific skills and knowledge needed for the job, which improves firm productivity. On the side of the applicant, urban centers with a high firm density offer more competitive job benefits, such as higher salaries and better working conditions.

Learning: Agglomeration allows for the swift sharing of ideas and experiences between individuals and firms. This not only improves information relative to job and education opportunities, but it also leverages innovation thanks to the rapid spread of new ideas. Consequently, both individuals and firms are more likely to invest in human capital as a means of maximizing their benefits from the network.

The city as a living organism

The success of cities and other urban sprawls comes from their social sustainability. As per the key benefits of agglomerations, they resemble a living organism in three key ways: (1) Cities act as a collection of many internal equilibriums, which determine between other things, the places where people live, work, learn, and produce; all of these tightly knit by a network of roads and physical infrastructure. Naturally, this representation of a city as a collection of perfect equilibriums is only feasible in an ideal scenario that lacks any social externalities and losses of information, which is especially the case for cities in the developing world. (2) Cities can also sustain growth, adapt, and evolve. For instance, the quick exchange of information between workers and firms sends signals that fine-tune job market characteristics according to new expectations and innovations. These signals also expand the educational frontier by creating incentives for human capital accumulation, this in turn creates more skillful professionals which attracts more firms which in turn improves competition, wages, and general living conditions. (3) Cities are not perpetual, they can be born and die, fade away or even disappear. A city lives and prospers because of its people, therefore when the urban environment fails to respond to their needs, they vote with their feet. This last characteristic is important because it puts the city within the context of a global market, where free individuals will promptly inspire a globally competitive city.

Up Next

As per this article, the benefits of sharing, matching, and learning should under the right circumstances give you a thriving and self-sustaining environment. Then, why aren't all agglomerations successful? For example, Lall, Henderson & Venables (2017) found that despite the growing number of people, cities in the developing world are unable to commensurate investments in human and physical capital that enhance the returns from density. In the next article, I will try to explain the conditions necessary for building a globally competitive city.

Sources

Bolten, K., & Robey, J. (2020). Agglomeration Economies: A Literature Review. Prepared for the Fund for Our Economic Future (FFEF). https://research.upjohn.org/cgi/viewcontent.cgi?article=1256&context=reports

Duranton, G., & R Kerr, W. (2015). The Logic of Agglomeration. Harvard Business School, Working Paper 16-037. https://www.hbs.edu/ris/Publication%20Files/16-037_eb512e96-28d6-4c02-a7a9-39b52db95b00.pdf

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