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ind this post at the new site paul romer has a nice post up about how urbanization passes the pritchett test for development pritchett s test is that urbanization in this case is related both in the cross section and the time series to living standards and positive shocks to urbanization are associated with higher living standards so romer argues that we should be studying urbanization as a route towards higher living standards in developing countries this jives to some degree with his charter city concept which proposes establishing new cities with functioning institutions in developing areas there isn t really anything to argue with about the rough correlations in the data urbanization is and has been associated with higher living standards for a long time but there are some subtleties in those relationships that mean simply urging everyone to flood into cities is not necessarily wise everything i m going to talk about now is based on joint work of mine with remi jedwab who studies urbanization in developing countries very deeply the first caveat i ll point out is that the absolute pace of urbanization matters a lot moving an extra 10 000 people into a city in a year may improve productivity in that city and overall in the country moving 1 000 000 people into the same city in a year will probably generate such awful congestion costs that productivity in that city falls and country level productivity may be lower remi and i lay out a simple model of this in a working paper that we have out and which is being furiously revised right now we show that if the absolute growth of city population is too large then city wages will actually get pushed down due to the overwhelming congestion effects even if there is some exogenous technological progress that part isn t incredibly shocking what we then do is show that if population growth is endogenous and rises as wages get lower then too rapid city population growth pushes a city into what we call a poor mega city equilibrium the city gets stuck with low wages and high population growth and cannot overcome the congestion costs of that growth we explain the arrival of poor mega cities like dhaka lagos and karachi as a kind of perverse result of the mortality transition after world war ii as it raised the absolute growth of cities beyond a critical threshold cities like these grow by 400 000 or 500 000 residents per year while historically cities like new york or london only grew at their peak by maybe 200 000 per year urbanization that happens too rapidly can have counter productive results the second caveat is that what drives urbanization matters remi and i along with doug gollin have a paper on urbanization and natural resources if you look across countries as romer does then there is a clear relationship of gdp per capita and urbanization rates however urbanization rates are not necessarily correlated with industry or tradable service production the figure above shows the lack of a firm relationship and this shows up if you use just manufacturing just manufacturing and finance or some other reasonable definition of what constitutes tradable goods and services there are lots of countries in the world that have high urbanization rates but are not industrialized and they tend to be resource exporters and this isn t just places like dubai angola a major oil exporter has an urbanization rate equal to china s we document that natural resource exports are a significant driver of urbanization we even have a neat little diff in diff type specification that looks at discoveries of resources and shows that urbanization rates jump in the decade after the discovery perhaps more important though we show that cities in places that urbanize because of natural resource booms have very different urban workforces than typical industrial urbanizers cities in places like angola have a big percentage of their urban workforce in personal services and small scale retail trade and few people in industry or high value services this contrasts with china where their urban workforce has a huge percentage of people in sectors that produce tradable goods or services i e finance the point is that urbanization is not homogenous what drives urbanization matters in that it determines what sectors people in those urban areas end up working in the last caveat kind of takes off from the second urbanization has been related to higher living standards over much of history but that doesn t mean it always will be remi and i did a survey paper on the relationship of urbanization and gdp per capita over time yes they are positively related in every year we look at going back to 1500 but that doesn t mean that urbanization rates have increased primarily because countries have gotten richer what we see in the data is that urbanization rates have shifted higher at every level of gdp per capita over time a country with gdp per capita of 1 000 had an urbanization rate of about 10 15 in 1500 but by 2010 a country with the same gdp per capita would be between 35 50 most urbanization over history has occurred not because of countries getting richer but simply because urbanization has gone up everywhere one implication is that the positive relationship of urbanization and living standards can only go down in the future rich countries are maxed at at urbanization rates of 100 so if poorer countries continue to urbanize then the relationship of gdp per capita and urbanization has to fall the over arching point is that the positive relationship between urbanization and living standards we see in existing data is an equilibrium relationship not necessarily a causal one there are plausibly negative impacts of too rapid urbanization on living standards and romer is careful in his post not to make any kind of strong causal claim he thinks we should be studying urbanization more carefully to try and understand what exactly it is that generates the positive relationships i d strongly agree with that i d like to think that remi and doug and i have given some clues towards an answer perhaps just by pointing out things that are not responsible for the positive relationship share this share on x opens in new window x share on facebook opens in new window facebook share on reddit opens in new window reddit email a link to a friend opens in new window email like loading posted in uncategorized tagged development growth urbanization 11 replies all institutions all the time posted on april 23 2015 by dvollrath 1 note the growth economics blog has moved sites click here to find this post at the new site wolfgang keller and carol shiue just released a working paper on market integration as a mechanism for growth they are looking at growth in germany during the 19th century and proxy for growth by using city population growth on the presumption that people only flood into cities that are booming economically they examine the explanatory power of both market integration and institutions for city population growth and hence for economic growth to measure market integration ks use the spread in wheat prices between pairs of cities the smaller the spread the more integrated the cities are larger price spreads indicate either high transportation costs and or some kind of other barrier to transactions that keeps trade from reducing this spread why wheat because it is widely traded homogenous and they have good data on it for institutions ks use three different measures all binary indicators abolition of guilds equality before the law and the ability to redeem feudal lands the very good part about their measures are that they are binary and this conforms to the historical situation as napoleon conquered german territories he imposed some very specific institutional change in these places so one can reasonably code a 0 1 variable for whether a specific city had abolished guilds or had imposed equality before the law that is adopted the napoleonic code or allowed redemption of feudal lands there is natural variation across german cities in when or if these institutional changes took place based on napoleon s activity this empirical set up is drawn from acemoglu cantoni and robinson the binary indicators are fine as they are but ks then do a bad thing and average these measures regular readers of this blog know how i feel about arbitrary indexes of institutions and averaging creates an arbitrary index their main specification averages the first two guilds and legal equality this effectively presumes that abolishing guilds and legal equality have precisely the same effect a city that abolished guilds but did not adopt legal equality has an institutional level exactly equal to one that did not abolish guilds but did adopt legal equality why should this be identical in effect these are clearly not institutional substitutes they potentially have wildly different effects on economic activity if you want to use different measures of institutions in this kind of study then you should incorporate these measures separately in your regressions that gripe aside what do ks do first they realize that if they just regress city population growth on their institutional measure and their measure of price gaps then this is subject to all sorts of objections regarding endogeneity and omitted variables so ks come up with instruments they use a dummy for french rule to instrument for institutions as only those places conquered by napoleon necessarily adopted the institutional reforms this is also the acemoglu et al strategy they then use a geographic measure of the slope of terrain surrounding a city as an instrument for market integration this is because the cost of shipping by rail increases with the slope of the terrain gravity is a bitch they make an argument that both french rule and the slope characteristics are exogenous to city population growth and serve as valid instruments they re using iv so you could also chuck rocks at the instruments and claim they don t work if you re going to do that you need to have some plausible story for why the iv s aren t exogenous i don t have a good story like that so i m going to take their iv strategy as solid what do they find they find that city population is significantly and negatively related to market integration price gaps and insignificantly but positively related to institutions cities that had smaller price gaps with other cities and so were more integrated into the wider economy experienced more rapid city population growth over the 19th century cities with better institutions may have had higher city population growth but the evidence is too noisy to know for sure for future reference their 2nd stage regression has an r squared of 68 which includes the impact of city and year fixed effects the regression also predicts 73 of the actual city growth in the mean city so they have what i would consider a lot of explanatory power although a bunch could just be due to fixed effects here is where i start to get confused by the paper i look at this and think looks like institutions at least the abolition of guilds and the napoleonic code didn t have a big impact on city growth holding those institutions constant more integrated cities grew faster but ks seem determined to find an interpretation of these results that preserves the primacy of institutions as an explanation for growth they take this result and say it does not tell us about the relative importance of institutions meaning those two or three very specific institutions of guild abolition legal equality and feudal redemption they argue that what you should really be doing is not looking at the lack of significance on institutions in this regression but do some different counter factuals so they do two different regressions they regress city population growth on market integration only with market integration instrumented by only the geography instruments this is their mechanisms model and it is intended to capture just the pure effect of market integration that specification yields an r squared of 49 and predicts 44 of actual city growth in the mean city again these numbers include any influence of the city and time fixed effects so this isn t all due to market integration they then do the mirror image of this they regress city population growth on institutions instrumented with only the french rule instrument this is their institutions model and is intended to capture the pure effect of institutions that gives them an r squared of 15 and predicts 13 of actual city growth in the mean city again these numbers reflect the explanatory power of institutions and the city and time fixed effects unsurprisingly both of these separate regressions have less explanatory power than the combined specification but it sure seems as if market integration is far more important that institutions doesn t it the r squared is 49 versus 15 and remember that those both include the explanatory power of the city and time fixed effects so it could well be that the explanatory power of institutions was zero and the explanatory power of market integration is like 34 this is knowable by the way and i d suggest they report the partial r squared s in the paper ks press on though to keep institutions a central part of the story they argue that we should view institutions as fundamental and that institutions led to market integration which led to further growth in support of this they use their first stage results from the main specification this shows that market integration is significantly related to both the french rule dummy and the geographic variables affecting rail costs on the other hand the institutions measure is only significantly related to the french rule dummy from this they conclude that institutional change led to gains in the integration of markets but market integration did not at least in the short run affect institutions institutions are more fundamental so to speak i don t think this follows from those first stages market integration is related to the french rule dummy which is not a measure of institutions it is a measure of whether the french ever ruled that particular city it captures everything about french rule not just those three particular institutional reforms it captures in part whether napoleon thought the city was worth taking over and i would venture to guess this depended a lot on whether the city was well connected with the rest of germany he needed to move troops around so cities that were already well integrated to other areas via roads would be particularly attractive the french rule dummy does not tell me that institutions matter for market integration they tell me that places conquered by napoleon were better connected to other cities i m not sure why it is so crucial to establish that these particular institutions in this time frame were important for growth ks have a really cool paper here with an impressive collection of data an interesting time perio...