1. Louvain Institute for Ireland in Europe
Regional Policy
Lotte Ovaere, KULeuven
Louvain Institute for Ireland in Europe
Fall 2011

2. Course outline Facts on Europe’s economic geography Theory
Comparative advantage
New economic geography
EU Regional Policy

3. Preliminary questions
Why is it important to reduce income disparities among EU member states?
How can trade modify the location of industries across Europe?
What’s the role of the education level of the citizens of a country in determining the effects of trade on economic activity concentration?

4. Europe at night
Core area: low countries (benelux), western germany, north-eastern france and south-eastern england

5. EU economic geography

6. EU economic geography
Regions
Land share %
Population share
GDP share
Relative Unemployment rate (EU27=100)
Relative Youth unemployment (EU27=100)
Share of population with income above EU27 average
Core
14.0
33.2
47.2
74.0
60.5
88.8
Intermediate
21.1
25.5
31.7
101.0
95.3
70.3
Peripheral
64.9
41.3
120.8
134.2
18.1
Source: EU Commission 2001

7. Geographic income inequality 2002
Luxembourg is 110% richer than average
Bulgaria only 26% of average

8. Luxemburg
Denmark
Ireland NL
Austria EU
Belgium
Ark, Mon, West V, Miss

9. Change in income standard deviation EU
-4.4
-2.7
-1.1
Italy
1.2
0.7
-1.3
Belgium
2.6
0.8
-1.4
Netherlands
-15.9
0.2
2.0
Germany
9.5
0.6
Austria
-1.5
Greece
1.0
1.5
-0.8
Portugal
5.2
0.3
1.4
Spain
1.3
Finland
5.5
France
0.9
1.9
0.1
Sweden
8.9
Ireland
0.0
5.1 UK
-1.9
2.7
Source: EU commission 1996 and 2003

10. Geographic income inequality, within nations
income distribution even more unequal at regional level.
Within nation economic activity is very unequally distributed
Income distribution has become:
More equal in EU15
Less equal within EU15 nations (by region)
Richest: Inner London (67000euros GDP pc)
Poorest: Lubelskie in Poland (6700euros)

11. Geographic income inequality
French example
Ile de France (Paris) has almost 1/3 of all economic activity
Per capita incomes (not shown) are 158% of EU15 average
Mediterranee has 10% of GDP, 12% of population
GDP/pop only 86% of EU15 average
Outre-Mer are former French colonies (poor islands in Caribbean, etc.)

13. By looking only at the GDP, we may conclude that EEI had modest impact on the location of economic activity as a whole… changes occurring within nations rather than across nations.
BUT
EEI may have encouraged clustering of manufacturing by sector rather than by region.

14. Krugman Index: Geographic Specialisation
KI tells us what fraction of manufacturing activity would have to change to make the country’s sector-shares line-up with the sector-shares of all other EU15 nations.
Most EU nations have became more specialised
EU economies seem to be specialising more in their comparative advantages

15. Summary of facts
Europe’s economic activity is highly concentrated geographically at the national level and within nations
Geographic Distribution of economic activity has become more concentrated within countries (proxy: income per capita)
Only modest reallocation of industry across nations
Specialization on a sector-by-sector basis
Sub-national level: industry more concentrated spatially.

16. Theory
2 major approaches linking economic integration to change in the geographic location of economic activity
Comparative advantage suggests nations specialise in sectors in which they have a comparative advantage
New Economic Geography suggests that integration tends to concentrate economic activity spatially
General idea:
Use c.a. approach to explain cross-nation facts
Use NEG to explain within nation facts

17. We will focus on these two aspects - specialization at the international level and agglomeration within the countries.
The first is the standard economic logic that connects European integration and the location of economic activity. The uneven distribution of activity is explained through given “natural differences” among European nations or what economists call comparative advantage.
The second focuses on how closer integration encourages the geographic clustering of economic activity.

18. Comparative Advantage and Specialisation
Relative labour endowments in Europe
83% above EU average

19. Question Portugal and Germany:
What do you expect according to their relative labour endowments? Think of ‘comparative advantage and specialization’
Think of 2 sectors, e.g. clothing and pharmaceuticals

20. Hecksher-Ohlin Theorem
Countries export the good that uses its relatively abundant factor intensively
Beneficial for both nations
But different skill groups are affected differently
Integration makes it easier to trade
Portugal shifts resources to production of clothing

21. Trade liberalization allows nations to specialize in sectors where they have a comparative advantage.
This effect of liberalization can have important effects on the location of industry: it encourages specialization nation–by–nation, even without firms moving internationally.

22. Agglomeration & NEG
When productive factors can cross borders (international or inter-regional) integration may have very different effects
Scale economies and trade costs generate forces that encourage geographic clustering of economic activity.

23. Question
Give examples of sectors on which there exist scale economies.
What about cheese production and car engine production?

24. There are two types of clustering:
"Overall clustering“ = some areas with lots of economic activity, others empty “core-periphery”
"Sectoral clustering" = each sector clusters in one region, but most regions get a cluster

25. Agglomeration & Dispersion Forces
Basic idea is that lowering trade costs affects both
Agglomeration forces
Tend to lead industry to cluster geographically
Dispersion forces
Tent to encourage industry to disperse geographically

26. Agglomeration Forces Many agglomeration forces
Technological spillovers (e.g. silicon valley)
Labour market pooling (e.g. City of London)
Demand linkages (a.k.a backward linkages)
Supply (cost) linkages (a.k.a forward linkages)
Demand & supply links are clearly affected by economic integration (lower trade costs)

27. Circular Causality & Demand Linkages
Market size
Some firm moves to big region
To have access to a bigger market and reduce trade cost
4. Production
Shifting,
Due to trade costs firms prefer to locate close to big market.
More industry moves to big region
2. Expenditure Shifting,
Firm and its workers spend incomes in big region
instead of in small region
3. Market Size Effects:
big market gets bigger, small market gets smaller

28. Circular Causality & Supply Linkages
Cost of production
1. Some firm moves to big region
4. Production
Shifting
Some more firms move from small market to big market, attracted by lower costs
2. Production Shifting
Migrated firms’ output now cheaper in big region & dearer in small region (trade costs)
3. Cost Shifting,
Availability of wider range of locally available intermediate goods makes big region cheaper place to produce

29. Question.
Given the benefits of agglomeration for the firm, why don’t we observe all economic activity to be located in a single place?

30. Dispersion Forces
Many forces lead to a tendency of firms to avoid agglomerations of economic activity
Rents and land prices
High cost of other non-traded services (e.g. unskilled labour)
Congestion costs and Local Competition with other firms
The NEG focuses on “local competition” since it is clearly related to trade costs
As trade costs fall, distance provides less protection from distant competitors

31. EQUILIBRIUM
How European integration affects the equilibrium location of industry?
Spatial density of economic activity in equilibrium depends upon the balance of the pro-concentration (agglomeration) forces and anti-concentration (dispersion) forces.

32. Simple framework One agglomeration force: demand linkage
Big market
Trade costs
Increasing returns to scale
Ignore feedback effect (flat aggl. force curve)
One dispersion force: local competition

33. Agglomeration vs. dispersion forces
Agglomeration and dispersion forces
Dispersion force B A E
Agglomeration forces
% firms in big region

34. Economic integration Reduces trade costs
Big market effect does not change
Impact on competition effect
Trade barriers protect firms from competition
Local competition becomes global
Dispersion no longer succeeds in avoiding competition
Dispersion force drops

35. Effects of integration
Agglomeration and dispersion forces
Dispersion force
Dispersion force with freer trade E E’
Agglomeration forces
% firms in big region
100%

36. Complicating factors Circular causality in agglomeration force
Upward sloping agglomeration force curve
Shift in dispersion force curve: additional dispersion forces at work …

37. Bringing two theories together
Essential role for factor mobility
With factors perfectly mobile within countries (NEG) and perfectly immobile between countries (CA), theory predictions come close to reality

38. Question
Is there a trade-off between national and regional convergence?

39. EU Regional Policy EU always had poor regions (Mezzogiorno, etc.)
much spending on poor EU regions, but very little by EU (pre 1986)
1973, Ireland (poor at the time joined); 1981, Greece joined but no major reorientation of EU spending priorities.
In 1986, Iberian enlargement shifted power in Council and spending priorities changed
Enlargement

41. EU Regional Policy For historical reasons, EU has 5 “Funds”,
4 Structural Funds: spent in any qualified region
* European Regional Development Fund: infrastructure, job-creating investment, local development, small firms
* European Social Fund: unemployment
* Fisheries Guidance: modernizing fishing industry
* Agricultural Guidance and Guarantee Fund: rural development and aid for farmers mainly in less developed regions
1 Cohesion Fund: spent only in poor-4 (Spain, Portugal, Greece and Ireland)

42. EU Regional Policy Funds work together under overall strategy
Many programs, initiatives, and objectives, BUT over 90% is spent on three priority “objectives”

43. 3 Objectives Objective 1 (about 70% of structural spending):
spending on basic infrastructure and production subsidies in less developed regions
generally defined: regions with incomes less than 75% of the EU average
about 60 “objective 1 regions”; they have about 20% of the EU population.

44. Objective 1 regions

45. 3 Objectives Objective 2 (about 10% of structural spending):
projects in regions whose economies are specialized in declining sectors
coal mining, fishing, steel production, etc.
spending should support economic and social “conversion”
about 18% of the Union's population lives in ‘Objective 2” regions.

46. 3 Objectives Objective 3 (about 10% of the funding):
measure to modernize national systems of training and employment promotion.
all EU regions excluding objective 1 regions.

47. Objectives, Structural Funds and Instruments 2007-2013
Convergence
ERDF
ESF
Cohesion
Fund
Regional Competitiveness
and Employment
ERDF
ESF
European territorial
Cooperation
ERDF
infrastructure,
innovation,
investments
etc.
vocational
training,
employment
aids etc.
MemberStates with a
GNI/head below 90%
environmental and
transport infra-
structure,
renewable energy
all Member States and regions

48. Objective and Budget allocation
%Cohesion budget
%of EU27 population covered
Convergence 82
Standard Convergence regions (34)
Phase-out convergence regions(3)
Cohesion Fund nation(34)
Regional competitiveness and employment 16
All non-convergence regions(66)
Territorial cooperation 2
100

49. Structural funds allocation by type of region 2007-13
Total: €347.4 billion
Convergence: €199.3 bn.
Cohesion Fund: €69.6 bn.
Phasing out: €13.9 bn.
Phasing in: €11.4 bn.
Competitiveness: €4.5 bn.
Cooperation: €7.8 bn.
in current prices

50. European Territorial Cooperation 2007-2013
Allocation: €7.75 bn. for cross-border, transnational and interregional cooperation
Cross-border areas

51. Spending priorities and Guiding principles
A good deal goes to physical infrastructure such as roads, bridges, regional airports, etc.
Lisbon Agenda emphasizes other spending: research and innovation, infrastructure of European importance, industrial competitiveness, renewable energies, energy efficiency, eco-innovations and human resources.
The Structural Funds are not spent on projects chosen at
the European level.
Choice of project and their management are solely the responsibility of the national and regional authorities.
As a matter of principle – the so-called additionally principle, Community funding should not be used to economize on national funds (difficult to verify).

52. Indicative Financial Allocations: 2007-2013
Political allocation
Indicative Financial Allocations:
Country
National
Convergence Objective
Total EU Regional Funds
GDP per head, €, 2005
Million €
€ per head in recipient regions
€ per head in recipient country
Share of GDP %
Share of total regional funds %
Bulgaria
7,913
5,888
753
6,047
768
3.15 2
Romania
7,933
16,912
778
17,316
795 3
5.6
Latvia
11,180
4,010
1,725
4,090
1,749
3.52
1.3
Poland
11,482
59,048
1,546
59,698
1,562
3.43
19.4
Lithuania
11,914
5,999
1,737
6,096
1,757
3.42
Slovak Republic
13,563
9,663
1,796
10,264
1,904
3.3
Estonia
14,093
3,011
2,221
3,058
2,247
3.31 1
Hungary
14,393
20,243
1,998
22,451
2,210
3.22
7.3
Portugal
16,891
18,316
1,750
19,147
1,847
1.82
6.2
Czech Republic
17,156
22,979
2,252
23,698
2,323
3.25
7.7
Malta
17,330
747
1,878
761
1,922
2.35
0.2
Slovenia
19,462
3,646
1,827
3,739
1,874
1.7
1.2
Cyprus
20,753
193
265
580
812
0.56
Greece
21,589
17,447
1,585
18,217
1,658
1.34
5.9
Spain
23,069
23,411
1,566
31,536
0.49
10.2
Italy
23,474
19,255
1,112
25,647
449
0.25
8.3
Germany
25,797
14,323
933
23,449
284
0.14
7.6
France
25,077
2,838
1,623
12,736
208
0.1
4.1
Finland
25,774
1,533
295
0.13
0.5
United Kingdom
26,715
2,594
949
9,468
160
0.07
3.1
Belgium
27,135
579
452
2,020
195
0.09
0.7
Sweden
27,721
1,682
188
0.08
Denmark
28,375
545
101
0.04
Austria
28,852
159
568
1,301
161
0.4
Netherlands
29,374
1,697
105
0.05
0.6
Ireland
32,197
815
207
0.06
0.3
Luxembourg
59,202 58
130
0.02

53. Structural Funds: Eligible areas in EU25 for Objective 1 and 2 between 2000 and 2006
Phasing-out (till 31/12/2005)
Phasing-out (till 31/12/2006)
Special program
Objective 2
Objective 2 partly
Phasing-out (till 31/12/2005)
Phasing-out partly (till 31/12/2005)

54. Impact of 2004 and 2007 enlargement
New members are much poorer than EU15
Difficulties:
Cost of structural spending could rise substantially
10 new poor nations make some poor regions in EU15 look relatively rich
Pushes them above 75% of EU25 average
Political power in Council likely to shift spending priorities

55. Impact of 2004 Enlargement
Some regions that will be pushed above 75% of average will lose Objective 1 status
Some, like northern Finland and Sweden are unaffected
Low pop density criteria
All of 2004 entrants have less than 75% of EU25 average
Except Cyprus

56. New cohesion policy programs
JASPERS: Joint assistance in supporting projects in European regions.
JEREMIE: Joint European resources for micro to medium enterprises
JESSICA: Joint European support for sustainable investment in city areas
Modernisation of public services

57. Question
Educational level in all EU nations is rising. How would this affect the spatial allocation of production?
Considering that low-skill intensive sectors generate lower added-value, why is it important to transfer funds to poorer countries, i.e. to intervene in the natural forces of agglomeration and dispersion forces?
Assuming ethical arguments are not enough, which rational and selfish arguments may justify the reduction of inequality among EU members?