New Economic Geography - Research Paper Example

The New Economic Geography Introduction One of the most important developments in the modern economic history is deeply rooted in the fact that the various economies have developed their competitive advantage purely due to their geographical locations. The production of typical goods and services therefore carried the relative competitive advantage over the competitors purely because of the advantages enjoyed owing to the location of the country. The new economic geography which is relatively different from the earlier theoretical attempts that discussed physical geography whereas this new concept focused on the second nature geography wherein the emphasis was on the location of the economic agents as key to the overall production process. The emergence of globalization witnessed blurring of traditional borders with free flows of goods and services across the borders. This gradual encroachment of national borders by the external forces also indicated an underlying concept of the new economic geography which indicated the relative importance of the location of the different economic agents in the whole process. It is therefore argued that the traditional lines between the regional as well as global economies are blurring because the economic geography of countries as well as economic agents provide increasing economic returns. This discussion is also critical due to the fact that the earlier theoretical attempts have traditionally viewed the spatial differences between the economies on the basis of the factor endowments, technological sophistication as well as various policy regimes that have been implemented. However, despite they failed to account for the fact as to why different countries were able to develop entirely new production structures to gain and maintain their competitive advantage. Thus the overall reasons as to why a particular location provides competitive advantage are really complex in nature. This essay will therefore discuss this argument within the context of the new economic geography and why the competitive advantage based on the relative location of the producers. New Economic Geography It is argued that the economic resources are always unevenly distributed across the space and as such every producer has the relative advantage or disadvantage in producing certain goods. What is called first nature is basically an emphasis on the economic development that took place until industrial revolution however, as the pace of economic growth increased after the industrialization process there was growing emphasis on the search for new and cheaper alternative resources. What is however critical to note that the new economic geography focuses on the second nature wherein the causal relationships are studies and as such the conditional differences play critical role in defining the international trade. Earlier theoretical attempts tend to ignore the transportation costs into the overall model of the international trade and focused more on identifying the spatial differences between the economies. This therefore also required that the economic geography as a subject was only limited to the study of the unequal spatial differences between the economies/producers based on the different spatial scales. Paul Krugman while making the case for studying the economic geography argues that the studying economic geography is critical because the location of economic activity within the countries is an important economic variable to study the differences between the competitive advantages each nation. (Krugman, 1992). Secondly, with the increased regionalization as well as free flow of economic goods the traditional models of international trade may not provide the correct answers to increasingly complex issues of international trade within the context of low barriers to entry into a unified market. Finally the changes that took place over the period of time have relatively changed the perception about the business cycles and their impact and as such it becomes relatively more important to study the economic geography in an entirely different manner. The theory of new economic geography or NEG is generally pioneered by Paul Krugman, Fujita and Venable to study the impact of the “different degrees of transportability of goods and factors on industry location depending on the extent of returns to scale and product differentiation”. (Ottaviano & Puga, 2004). Thus the NEG attempts to address certain questions such as why the various attempt to locate themselves into particular space and as such the location of the firm/producer plays main role in the discussion regarding NEG. To discuss NEG in greater details, it is therefore critical that one shall also discuss the firm location theory to understand the questions such as why the particular firms chose to concentrate themselves in a particular space at a given point in time. The decision of locating a firm in particular region therefore depend upon the relative transportation costs as well as the increasing returns that can be obtained from locating the plant in that particular region. (Ottaviano & Puga, 1998). Further improvements in the theory however, also fundamentally discussed that the new firms tend to settle themselves into places where the economic activity has already been established regardless of the overall transportation costs etc with renewed focus on the profit maximization. However, the recent trends indicate an increase in the economic activity in the developing countries also which traditionally not the favorite spots were for the international firms. The so called progressive globalization have resulted into the changes that defy the convectional logic because changes in the ICT, globally integrated value chains as well as the fierce global competition indicate the changes that force the firms to locate themselves in areas where the opportunity to maximize profits is high. (Wignaraja, 2003) NEG is based on two important principles of the differentiation as well as the home market effect which tend to explain the phenomenon such as why in increasingly rich countries there are regions that are poor in their economic status. This also means that the regions with higher population tend to attract more firms and as such regions of greater size tend to get more benefits coupled with the trade liberalization. For example, China and India are two countries with the two of the largest populations of the world and with the opening of Chinese economy, most of the manufacturing firms are relocating themselves to China not only to take benefit of the large market size but also the availability of cheap labor and raw materials. Krugam also argues that the increasing labor migration as well as the increasing trade costs creates a tendency for the firms and labor to locate themselves into areas where such costs are minimal. The above discussion indicates that there are various reasons as to why the firms tend to locate themselves into particular region to gain the competitive advantage. However, one of the most important criticisms of this theory came from the Porter who produced an alternative model of achieving the national competitiveness. Following section will discuss the main arguments of Porter in greater details: Economic Clusters Porter produced one of the most important criticisms of the location theory and emphasized that the more open global markets should diminish the role of location as one of the most critical elements to achieve competitiveness. The improvements in the communication technology as well as the reduced transportation costs therefore is viewed as the traditional blurring of the location as the critical factor. What is also significant to understand that the concept of clusters resulted into the discussions for the national competitiveness and how it can be achieved without focusing on the assumptions of location? Technically clusters are considered as geographical concentration of different companies having strong linkages with various other organizations including their suppliers, trade organizations as well as governments. The sources of competitive advantage in an economic cluster usually are driven from the local knowledge as well as the understanding of the market which typically may not be available to the competitors located outside that space. (Porter, 1998). This also means that the sourcing of inputs from the different parts of the world make it more easier for the firms to procure raw materials at lowest cost without relocating to the areas where they can find such raw materials. This is however, often been associated with the rise of communication technologies which made it more possible for the firms to outsource their different operations without relocating themselves. Thus Porter views location as unnecessary as the source of competitive advantage is not the location of the producers but their ability to utilize the inputs more creatively and as such the degree of innovation holds the key for gaining competitive advantage rather than the location of the firm or producer. This approach is different from the earlier theoretical attempts made through NEG because it attempts to find the source of competitive advantage not in the location of the firm but rather view the development of clusters as a phenomenon that uses the creative energy of the firm to achieve optimal use of the inputs to achieve and maintain the competitive advantage in the market. Porter however, also define the influence of what he calls the external environment on the competitiveness of the firms and that is where the whole concept of clusters comes in to explain the relative influence of external geography on the competitive of the firm. Clusters therefore allow firms to gain competitive advantage mostly through innovation, better access to inputs as well as other factors that indicate towards improving the efficiency at the micro-level. Based on this, Porter forwarded the concept of the competitive advantages of the nations which was not actually based on the location theory but rather provided a comprehensively different approach to study the competitiveness of the firms. According to the diamond model, the sources of competition therefore are not just only limited to the location but rather they depend upon the components such as factor conditions, how related and supporting industries are corroborating with the firms, the overall demand conditions in the market and the nature of strategy and rivalry between the firms. A nation’s competitiveness therefore not depends exclusively on the location but rather on a combination of various micro and macro factors that combine together to explain the subtle differences between the firms and their competitiveness. The diamond model of Porter therefore provides a radical change from the traditional economic concepts that the land and natural resources can provide a country definite strategic advantage. Rather it s the micro-management of the firms that can achieve efficiency either through following a differentiation strategy or through economies of scales resulting into lower costs.1 Though at the core of the diamond model there is greater and primary importance of the location however, location alone cannot provide the competitive advantage until and unless it is not supported by the factors that are outlined in the diamond by the Porter. NEG particularly fail to appreciate the role of government whereas the cluster theory by Porter particularly reflects upon the role of government as the one of the catalysts which can provide the necessary stimulus to achieve and maintain the relative competitiveness of the firms in any given location. Thus again the location alone does not provide the answer to the achievement of the competitive advantage by the firms but rather its based on the multitude of factors that can contribute to achieve the required competitive advantage for the producers in any given location. A closer analysis of the criticism of NEG will also reveal that the there is too much reliance on just one model as empirical results may fail to corroborate NEG. This also means that the agglomeration is considered as plausible outcome but not the one that can be considered as inevitable. (Neary, 2001). Further, there is also an argument which indicate that the firms and consumers follow each other i.e. where there is more concentration of consumers, firms will tend to follow such places whereas consumers will prefer those places where there is a concentration of the firms. This issue of circular causation therefore may not offer the relative explanation of the location as the major contributor. Further, it is also argued that the economic structure in localized economic settings is mostly oligoplostic in nature as the firms can only affect the prices of competitive firms that are in their neighborhood and may not be able to affect the prices of the firms that are distant.( Ottaviano, & Puga,2004). This is fundamentally different from what has been put forward by Krugman and others who view the interaction of firms in a particular location under imperfect market conditions. Critique also indicate that the mathematical explanations of NEG theory is considered as prioritization of the complex mathamatical techniques over some of the realistic explanations that can provide better explanation of the overall argument of competitiveness of the firms in a particular location. (Meardon, 2001) Complexity of Reasons What has been put forward by the Paul Krugman and others may not entirely be the correct modeling of the actual economic setting as there are other factors also which potentially hamper this argument. Though location play critical role as over the period of time it has been observed that the firms in a particular location tend to perform better than the firms that are not located in that particular location. However, there are also other factors which should be counted when describing the location and its impact on the competitiveness of the firms. Porter’s arguments though give a central importance to the location however; there are other factors also which contribute towards the development of the competitive advantage for the firms. The role of government is of critical importance and so is the importance of how the firms manage themselves at micro level to sustain their competitive advantage. Until and unless firms in a particular location do not improve their efficiency it is unlikely that the they will be able to gain competitive advantage even if they are location in an space that provides natural competitive advantage to other firms. Thus the reasons as to why particular firms develop competitive advantage in a particular location are really complex one. Conclusion The new economic geography as well as the new arguments on the international trade indicates a fresh look at the way as to how firms and economies interact with each other. However, to conclude a particular location develops competitive advantage for the producers is relatively more complex given the fact that new literature on the national competitiveness indicate entirely different approaches to understand this question. The arguments that the free flow of goods and services as well as labor force firms to locate themselves into areas where the probability of the profit maximization is high whereas Porter argues that the improvements in the communication technology as well as the lower transportation costs will make the traditional location argument as meaningless as over the period of time, the development of economic clusters will force firms, suppliers as well as consumers to come closer to each other geographically thus whenever there arises any such opportunity firms will move in that direction regardless of the location of the firm. Porter indicates the examples of Japan and Switzerland as two countries with no location advantage but achieved considerable competitive advantage. Bibliography 1. Krugman, P. R. (1992). Geography and trade. Cambridge MA: MIT Press. 2. Porter, M. (2002). The Competitive Advantage of Nations. In D. Faulkner, Strategy (p. 442). New York: Taylor & Francis. 3. Meardon, S. J. (2001, January). Modeling Agglomeration and Dispersion in City and Country: Gunnar Myrdal, Francois Perroux, and the New Economic Geography - Critical Essay. Retrieved January 11, 2010, from BNET: http://findarticles.com/p/articles/mi_m0254/is_1_60/ai_74643759/ 4. Neary, P. (2001). Of Hype and Hyperbolas: Introducing the New Economic Geography. Journal of Economic Literature , 39 (1), 536-561. 5. Ottaviano, G., & Puga, D. (1998). Agglomeration in the Global Economy:. A Survey of the “New Economic Geography , 21 (6), 1-45. 6. Ottaviano, G., & Puga, D. (2004, January 26). New Economic Geography: what about the N? Retrieved January 09, 2010, from http://www.core.ucl.ac.be: http://www.core.ucl.ac.be/staff/thissePapers/EnPla51.pdf 7. Wignaraja, G. (2003). Competitiveness Analysis and Strategy. In G. Wignaraja, Competitiveness Strategy in Developing Countries (p. 4). New York: Routledge. Read More