PUBLIC INVESTMENT IN THE SERVICE SECTOR CAN BOOST GROWTH IN DEPRESSED REGIONS: Long-run US evidence

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Date:
25 Mar 2015

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The research shows how highly skilled workers tend to concentrate in dense urban areas more than proportionately given the national market structure. Since 1980, services firms that hire skilled workers have located increasingly in big cities in the United States. A plausible reason behind this is that urban clusters offer more diversity and a greater chance to find customers and workers.

But the role of new technologies has changed the production strategies of certain firms. Technological progress (railway, telephone, the internet...) has reduced costs and time of production. This effect has been much more revolutionary in the service economy.

Service firms have evolved from providing personal services whose consumption is simultaneous to production – like haircuts – to the possibility of providing services to customers located in distant locations and even storing their product – like software applications or legal services.

The key to these new services is that the main input of production is not labour, but highly skilled labour. Technology not only allows storing these services but also providing them to far away customers at the same cost.

Why do firms locate in urban areas despite higher rents and competition? The crucial point is that fixed costs of service firms may be high but the average cost of delivering a service to a customer is very low. Thus, being close to a big market pays: the more they sell, the higher the profit.

Market size has grown with the decrease in transport and communication costs: it accounts for local buyers, national demand and even international customers. In general, highly populated counties have greater international demand; but the essence of the market is local.

Census data show that market potential has always been a strong cause to the localisation of any economic activity and reduces the effect of being close to resources – the previous justification. This effect is greater for services and doubles for those provided by high skilled labour. This way, urban areas devoted to knowledge-based services enter a virtuous circle of growth.

US history provides several cases in support of these results. Successful industrial cities in the 1950s (Detroit, Cleveland, Akron ...) ended up in urban decay that led to the long-term slowdown of their economy.

In contrast, cities whose market was primarily based on services provided by skilled labour have remained prosperous and kept at the head of the rankings of most urbanised cities. New York, Florida and San Francisco illustrate this.

There are, however, some examples that bring hope of economic recovery to depressed areas. The state of Idaho, also known as the potato state, was historically one of the most important providers of agricultural crops of the country, but average wages were not very high and average size of urban areas was small.

In the 1950s, profiting from the vast amount of unused land, the national government built the National Reactor Testing Station in the nearby desert. This research centre became an international reference calling researchers to move to Idaho. Average salaries rose with population growth and the many other services demanded by these high-wage workers. Without the initial call for researchers, the area would have never become this prosperous.

These examples and the analysis of US Census data suggest that appropriate incentives can attract skilled workers to stagnated areas and foster economic growth. There is no way service businesses will arise if there is no demand, but public investments can trigger the growth of these markets.

ENDS

ICT Revolution: Localization of Service Sector Employees in the Long Run
Alexandra López Cermeño, Universidad Carlos III de Madrid

allopezc@clio.uc3m.es

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