Mobile Capital, Local Externalities and Industrialization1

This paper seeks to understand how industrialization is distributed geographically when capital is mobile and labor is not. A stylized model of a spatial economy is constructed where individuals not employed in industry work in traditional activities. Results show that convergence across locations is characterized by a succession of catching-up episodes. One one location at a time industrializes; the others stagnate. This occurs whether or not local externalities are present. Investments in infrastructure and education respond to expectations about future industrial activity; pessimism can be self-fulfilling. Free access to technology does not guarantee the industrialization of undeveloped locations. These results cast doubt on whether free movements of capital and technology transfers can foster the rapid industrialization of all countries and regions of the world simultaneously. In recent years, the international mobility of capital has attracted a lot of attention from policy makers and the general public alike. While workers in developed economies often are busy fighting the relocation of industries to low wage areas, much hope is put in foreign direct investment by developing countries recently converted to the virtues of the free market (e.g., Dicken (1992)). Similarly, in financial circles, emerging markets are the catch word of the day (e.g., Dicheva, Drach and Stefek (1992), Wilcox (1992)). Even within developed economies like the United States and the European Union, it is common for states and regions to compete to attract industrial investors. To throw some light on these important issues, this paper examines how industries naturally distribute themselves over space if capital is mobile and labor is not. It belongs to a growing literature on the effect of factor mobility on trade (e.g., Norman and Venables (1995)) and growth (e.g., Barro, Mankiw and Sala-I-Martin (1995), Adsera (1994)). We consider a stylized economy with a large number of possible locations for industrial activity. Each of these locations is assumed endowed with a stock of immobile labor resources. Industries locate freely until returns to capital are equalized across industrialized locations. Unlike most growth theory, we adopt Lewis-like framework (see Lewis (1954)) and assume that workers who are not employed in industry work in laborintensive activities -e.g., subsistence farming, informal sector activities, export crops. Given these simple assumptions, we show that industries concentrate in small number of locations. Convergence across locations is not smooth and gradual. Instead, it is characterized by a succession of catching-up episodes. Many locations remain unindustrialized for extended periods of time. These results stand in sharp contrast with what would obtain in a neo-classical growth model with mobile capital (e.g., King and Rebelo (1992)). In that case, convergence would be smooth and would benefit all economies