Location Policy - General Analysis

Question 1

Trade Openness and locational hysteresis

Answer 1

1. Lowering TC (e.g. tariffs) -> E1 to E2 -> firms are still in equilibrium between the firms
2. Further decrease of tariffs from E2 to E3 will lead to agglomeration forces between regions
3. A reversal of the policy with the increase of transport costs will move us from E3 to E4. This time however there will be agglomeration at this point
   - > Conclusion: temporary policies can have long-lasting effects and reverting the effects of the unintended policy outcome is not easy

Question 2

Subsidies and location.

Starting point all workers are located in region 1 .

Answer 2

1. Region 2 wants to make workers move to their region
   - > subsidies of region 2 must equal (or be higher than) the real wage difference -> make workers move
2. Equilibrium if all workers are in region 2
   - > how high must subsidy be to retain workers? 0, agglomeration rent, HME + price index effects take place -> no subsidies needed
3. Initial debt taking of region 2 government might pay off (taxation of workers + firms, etc.)

Question 3

Interaction of trade policy with other policies: Less-extreme forms of non-linearity

Answer 3

1. Increase in tax rate (lowering w1-w2)
2. Tax base decreases correspondingly; however in this diagramm there is still an overall positive effect for tax revenues
3. Second tax increase by the same amount as the first one
4. Non-linearity causes the tax base to erode more than the first time (however still beneficial for tax revenue)
   - > at some point the tax base will erode -> Laffer curve shows that higher tax rates might lead to lower tax revenues -> interaction effects between tax rate changes and tax base
   - > Conclusion: Effect of taxes on taxable base depends on initial situation

Question 4

Interaction of trade policy with other policies: decreasing TC

Answer 4

Dotted line: line shows lower TC

Conclusion: as TC decrease, firms are more ‘mobile’ and policies can therefore have a larger impact

Question 5

Policy leading to agglomeration (from multiple equilibria).

Initially symmetric equilibrium. Now TC decrease -> outcome?

Answer 5

Agglomeration. Even very small policy initiatives can influence location outcome.

Question 6

Location theory - policy experiment: building bridges between cities (in a pancake economy)

Answer 6

Results:

• core and periphery both have to be taken into account (in reality this often doesn’t happen)
• agricultural workers are immobile and hence benefit less/unequally than mobile manufacturing workers (taking average can be insufficient)
• location of bridge can significantly influence impact on welfare per capita
• if TC increase, city sizes become more alike (symmetry) (otherwise agglomeration)
• useful thought-experiment
• extra cost-benefit analysis required
• e.g. for EU: decide between a bridge between Denmark and Sweden or between Italy and Greece