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March 9, 2006

Economic Development Strategy

What is regional economic development? Economic development is a set of strategies (EDS) that try to improve the well-being of people who live in an identified place. Conceptually, the place may be a region of the world, a nation, a sub-national region, a state, metropolitan area, city, or neighborhood. In the United States, EDS are most often applied to geographic areas that are smaller than the national level, especially from communities on up to states or multi-state regions.

We can think of several very general EDS along the following dimensions:

  1. Enhancing economic opportunities for people in a specific geographic area through heightened labor demand (e.g., usually through jobs development or the attraction of firms and capital); i.e. “bringing jobs to people.”

    The marketing and promotion of regions are common EDS, along with more fundamental fashioning of a region’s business climate to attract investment and firm start-ups. An understanding of decisions about firm location and investment location is important for those regions that attempt to hike local labor demand by lowering firm costs of doing business through favorable tax or fiscal incentives. A useful introductory collection of essays on firm location decisions and economic policy can be found in Henry W. Herzog, Jr., and Alan M. Schlottmann, 1991, Industrial Location and Public Policy, Knoxville, TN: University of Tennessee Press.

  2. Improving workforce skills and education, thereby creating opportunities for people to qualify for existing jobs.

    The literature here is vast and varied. For a broad policy perspective, see the essays on returns to education by Nobel Laureate James J. Heckman. Among his recommended policy interventions are to “catch ‘em while they’re young” (invest in early childhood education), though his writings are nearly comprehensive concerning other possible actions such as adult workforce training and the efficacy of school reforms (e.g., voucher programs).

  3. Accomplishing both of the above for an economically depressed area.

    Perhaps to meet the most common demand for an economic development strategy a region would need to employ a dual approach. That is, to raise local work force skills at the same time that local job opportunities are created for those skills. Obviously, this is a tall order, especially in that these two achievements most likely must take place in the same time period.

  4. Linking more closely existing jobs or labor demand to available workers through several means.

    These would include providing easier transportation (more convenient commuting), greater affordable housing closer to job sites, and improved labor market information or lower transaction costs for filling or matching existing jobs. The so-called jobs mismatch hypothesis suggests that housing segregation or residental building patterns isolate low-income workers from job opportunities.

    For an introduction to academic studies of jobs mismatch, see Katharine L. Bradbury, Yolanda K. Kodrzycki, and Christopher J. Mayer, 1996, “Spatial and labor market contributions to earnings inequality: an overview - Special Issue: Earnings Inequality,” New England Economic Review, May-June.

  5. Having people migrate to outside regions of greater opportunity.

    Such a strategy is seldom advanced by politicians and policymakers. Local residents, even in depressed areas, rarely want to leave their home regions, and local politicians do not often find it in their interests to encourage “their votes” to migrate. Yet, migration is an important mechanism to improve well-being on the world stage, and in highly mobile places such as the U.S.

The theories and ideas behind existing EDS typically derive from economic theorists and their academic studies of the mechanisms described above. However, historically, economics discipline/theory has generally developed as a nonspatial discipline. It was not until the latter half of the 20th century that theorists widely began to include space in economic models and thinking.

Theory and empiricism on urban and regional behavior, especially with U.S. applications, can be found in several American journals, the most prominent of which are:

Journal of Regional Science and
Journal of Urban Economics.

For “more applied” and practitioner’s journals of U.S. EDS and applications see:

Economic Development Quarterly and
Growth and Change.

Several general books on EDS and associated case studies are helpful and accessible to those with basic economics training would find them readily accessible:

Timothy Bartik, 1999, “The market failure approach to regional economic development policy," in Approaches to Economic Development: Readings from Economic Development Quarterly, Thousand Oaks, CA: Sage Publications.

Timothy Bartik, 1991, Who Benefits from State and Local Economic Development Policies?, Kalamazoo, MI: W.E. Upjohn Institute.

Peter K. Eisinger, 1988, The Rise of the Entrepreneurial State, Madison, WI: University of Wisconsin Press.

Popular discussion and application of EDS centers on several areas. Economic clustering is perhaps most discussed. Clusters often denote a highly concentrated group of firms in the same industry or a group of firms or business activities that closely interact through trade or the sharing of technology, infrastructure, or work force. When and where such clustering gives rise to competitive advantage, high productivity, and rapid growth, it is of great interest to those regions who hope to nurture their own clusters or to build new ones in their region.

Economist Alfred Marshall, for one, first discussed the importance of proximity in fostering “centers” or “clusters” of industry and economic growth. Urban and regional economists have been writing/modeling these phenomena and the interactions between geography, scale, and trade, for 40 years or so. Economist Paul Krugman belatedly discovered the urban-regional literature for the mainstream economic profession and set it down in mainstream economic journals, such as the Journal of Political Economy and the American Economic Review, as well as a book, especially within the context of international trade.

In the context of regional development strategy, these ideas have been recently popularized by Michael Porter of the Institute for Strategy and Competitiveness and are being applied in the EDS of many states and regions. Porter’s website contains the theory and information on cluster strategies and also includes descriptions of applications from the U.S. and across the world.

The theory of cluster formation and strength is especially popular in strategies to create and promote centers of technology activity and technology transfer, following Silicon Valley’s success. For examples, see:

Andrew Reamer, 2003, Technology Transfer and Commercialization: Their Role in Economic Development, Washington, DC: U.S. Department of Commerce, Economic Development Administration.

Richard K. Lester, 2005, Universities, Innovation and the Competitiveness of Local Economies, MIT, Local Innovation Systems Project.

Jerry Carlino, 2001, "Knowledge Spillovers: Cities' Role in the New Economy," Federal Reserve Bank of Philadelphia, Business Review, Fourth Quarter.

Owing to the success of some prominent high-growth technology centers such as the San Francisco Bay area, many regions have also sought to foster entrepreneurial activity among local workers and business people in hopes that high-growth new businesses or industries may be created.

Ideas about globalization trends have also permeated EDS. It seems that everyone is now reading and citing Thomas L. Friedman’s The World is Flat: A Brief History of the Twenty-first Century. In it, Friedman’s thesis that heightened globalization has eliminated many local economic advantages for communities in the developed world, as well as made most goods and services “tradable,” is taken to its extreme. While globalization has indeed exposed many regions to heightened competition, the world is far from flat. It is still quite mountainous or “spiky”; it is full of clusters where location matters. Far from existing in obscure and competitive flatness, specific places maintain their prosperity and competitive edge through cluster relationships where infrastructure, technology, specialty activities, entrepreneurial culture, human capital, and quality of life are quite significant.

Economist Edward L. Glaeser believes the world to be spiky and has explored the relative prosperity and sources of growth of large cities in the U.S. economy. Large cities tend to be clusters of highly educated workers and occupations, and the income or wage premiums for highly educated workers has been surging in recent decades. One recent paper by Glaeser finds that the share of the adult population with college degrees increased more in cities with higher initial schooling levels. This divergence may be driven by the tendency of skilled entrepreneurs to innovate in ways that employ other skilled people.

Below is the ranking of the largest U.S. cities by share of work force having college degrees. A few Midwest cities, such as Minneapolis, Cincinnati, and St. Paul, sneak in near the top. Some other Midwest cities are listed for reference.

Source: U.S. Census Bureau, American Community Survey

City leaders themselves have surely noticed the tendency of such cities to grow rapidly, and accordingly, they have been active in trying to boost their attractiveness to educated workers. Since young workers are more mobile, efforts have been chiefly directed toward them.

One who especially believes that places should aspire to a high quality of life and robust entrepreneurial culture is Richard Florida. His book is especially popular in discussions of urban development. Florida’s thesis is that returns to human capital and entrepreneurial activity reign supreme; physical capital is secondary. Cities should encourage in-migration of creative types including artists, gays, techies, and business-builders. High quality of life, urban amenities, and social diversity are economy-builders.

The table below is drawn from Joe J. Cortright, who has also been researching the correlations between an educated work force and economic growth. Shown here are the share of young adults having a four-year degree or higher, not for cities, but for entire metropolitan areas. In the Midwest, the Chicago and Twin Cities metropolitan areas are the regional magnets for the young and educated.

The range of possible EDS is very large. Regions themselves vary along many dimensions so that, in fashioning EDS, local investment, institutions, and programs are (ideally) chosen to complement a region’s own characteristics and position. However, even with well-crafted EDS, success is far from certain. Regional economies are often buffetted by events and forces that are impervious to local EDS. In such an uncertain world, investing in general education and health at an early age seems to be all the more attractive. For one, these assets are portable if out-migration becomes necessary or desirable.

Posted by Testa at March 9, 2006 11:50 AM


Dear Bill,

Thank you for your informative article. When I consider the state of the economy in Michigan, for instance, I am intrigued by what your response will be in regards to:

If the Michigan region undertakes, which the Governor has aimed to do, increase college level education, and if it is successful in attracting college graduates from other regions of the country, wouldn't that be at the expense of other regions? Although we are in a global economy it doesn't seem as though foreign-born college graduates are that big of a percentage. So, if certain regions of the country benefit through higher wages by attracting businesses and employees with more education, does the FRS even care, since monetary policy is national in scope? It seems as though the best strategy would be a win-win for the cities that gain and the cities that lose workers, but since the only benefit I can see of a city losing workers to other cities is lowering its unemployment rate, then is that really a benefit? Unless of course, the workers attracted to a region are foreign-born, and they are filling lower level jobs that college educated people wouldn't want anyway.

What is the optimal solution in your opinion, for overall growth and productivity, and please don't tell me moderate inflation with slow and steady growth! Do you buy into Richard Florida's theories?

Posted by: Sheila McKean at March 13, 2006 6:43 PM

Response to Sheila McKean

Dear Sheila:

Thank you for your thoughtful comments. Let me try to respond to some of them.

Most of your concerns seems to be whether economic development--especially with respect to college graduates and attracting them--is a "zero sum" game, meaning that one place loses, the other gains, with zero net addition to growth and value. While it is true that development programs can be poorly fashioned so that, not only are zero-sum the result, but negative-sum results (downright waste) is the outcome. Development subsidies to site a salt-water fish-processing plant in central Michigan is often used to illustrate. We must always be careful to choose local policies that enhance national growth, that correct market failures, rather than those to merely "dig up gold in one back yard and re-bury it in another."

With regard to increasing college graduates, there are very strong research findings that the economic returns of those who are able to complete a college-equivalent education are strong and rising. If there are cost-effective ways to bring more Michiganders through the college pipeline, that would be helpful to growth and development. Expansion of early childhood education and elementary education reform that includes more choice and competition are some possible means to do so.

A risk here is that those young people move away from Michigan rather than stay...but in perspective, how bad is that? If they do move, they will be moving to opportunity. From a local perspective, this is far superior to having local unemployed or under-employed who remaining Michiganders must support through government programs. Nationally, the economy benefits regardless.

As for attracting college grads, there are also apparent market failures that could be corrected and which would benefit Michigan and the national economy at the same time. Other research suggests that large cities can be highly productive in innovation and start-up activity. This is especially so as the national and global economy are gravitating toward such activities in creating value. Why is this so? Apparently, when knowledge workers rub elbows and meet together--both formally in office buildings and informally at the latte shop--productivity and growth are further enhanced. In the Midwest, some cities--especially central cores and downtowns-- have apparently failed in their ability to bring together knowledge workers, while others are succeeding.

Why such disparities? Out and out competition is motivating most cities to mimick one another in providing amenities that attract professionals back to the city. Some mayors have been more successful than others. Such competition is not a zero sum game.

In other instances, there may be structural or organizational impediments that prevent cities in our frost belt from becoming as productive as possible. In some instances, central cities are left with full fiscal responsibility for the poor. In others, the large public school system is not responsive to reform and improvement. Land use re-development is also sometimes hindered by local politics.

I am very happy that you raise the specter that development policies can be zero sum or even wasteful. The Federal Reserve System serves the national interest, and their primary tools are those blunt instruments of monetary policy, efficient payments services, and well-fashioned regulation and supervision of financial institutions. We know that such activies are all positive for the national well-being.

However, in the process of understanding the national economy by analyzing its individual regions, we also try to share our information and expertise at the micro level. Much like our national-oriented activities, we believe that these activities make us all better off, regardless of where we live.

Posted by: Bill Testa at March 15, 2006 5:28 PM

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