Regional Economic Agglomeration and Openness: The Economic Development of the North Eastern Region (NER)
- Part 1 -

Dr. Bishwanjit Singh, Loitongbam *

Introduction:

The key determinants of a country's economic development depend on the combination of its factor endowment, technology, institutional structure and policy stance. While not denying the importance of these considerations, the paper tries to examine different view of economic development and underdevelopment, based on the idea that economic activity in North Eastern Region (NER) may agglomerate spatially and international openness causes higher economic growth.

One of the reasons of prolonged underdevelopment of NER is the export constraint on the part of NER due to low demand, high trade costs, poor infrastructure and lackadaisical nature of the Government. As a result, the region has benefitted little from India's trade liberalization. It is said that NER requires more initiatives and investment to develop its own manufacturing base as its manufacturing industry is in infant stage. v To find a solution to this problem, it is necessary to examine the trade pattern between India and the rest of the World. On 25th September 2014, PM Narendra Modi launched "Make in India" campaign to make India a manufacturing superpower with 25 thrust sector which includes automobiles, chemicals, IT, pharma, textiles, ports, aviation, leather tourism and hospitality, wellness, railways, etc.

The key focus of this campaign are 'ease of doing business', focus on Public-Private partnerships, harnessing the potential of Democracy, Demography and Demand. Emphasizing 'collective responsibility' for country's development and focusing on job creation, PM Modi said, "We have to change the economic dynamics; we have to improve manufacturing in a fashion that benefits the poor. This is a cycle, move poor people towards being a part of middle class.

Manufacturing boost will create jobs, increasing purchasing power, thereby creating a larger market for manufacturers." It implies that India needs to develop manufacturing industry to lift poor people out of poverty, as it can provide a large number of employment opportunities for both skilled and unskilled workers. Improving manufacturing sector will create more employment opportunities than that of other sectors. Thus, improving manufacturing helps the country to eradicate poverty by creating more income and employment.

In the true spirit of 'Make in India' policy, if the NER wants to live on their feet rather than on their knees, it is necessary to change the policies with regional characteristics as well as collective efforts so that the region could become economic powerhouse by converging them into an economic unit. It is suggested that NER should pay attention to improve manufacturing industry by enhancing industrial capabilities as well as by specializing towards its comparative trade advantage commodities. Section II discusses how the regional economic integration and international openness may benefit the development of NER and section III is the conclusion.

2. Regional Economic Agglomeration and Trade Openness:

2.1 Regional Economic Agglomeration:

The spatial agglomeration of industry has been formally analyzed in recent work in economic geography (see Krugman and Venables, 1995) and the goal of the present paper is to find out the implications of this approach for economic development of the region. Why does NER need to pull economic activity into a single location? Some countries trade more because of their proximity to well-populated countries, while some trade less because they are isolated (Frankel & Romer, 1999). This situation is also quite true in the NER of India. The region is trapped in 'peripheralism'(Barman, 2009) and the population densities of the NER are below the national averages.

In most of the NER states, the main towns are small and there only few regional district hubs. For example, hardly any small market towns can provide chain market to commercial farmers for their produce. Besides, the commercial and financial banking activities are very marginal because of small population and areas (Bruner et al., 2010). Why do firms agglomerate in certain places?

When trade costs are sufficiently low, firms tend to locate where demand is larger in order to benefit from economies of scale, and demand becomes larger as production of manufactures concentrate. Three main forces shape the process of agglomeration/dispersion of economic activity in space. Firstly, the 'product market competition' effect implies that when one worker migrates from Region B to Region A, competition in the latter raises (while it is reduced in the former). Then, firms pay lower wages in Region A relative to Region B as a way to support their competitiveness.

This effect clearly constitutes a dispersion force since some workers in Region A will decide to migrate in Region B where the relative wage is higher. Secondly, the 'home market effect' implies that, other things being equal, the region with the larger market for a specific product has the higher wage and it is a net exporter of that product (Krugman, 1980): in fact, more workers in Region A entail a larger share of income spent in industrial goods and this allows local firms to pay higher nominal wages, making this location increasingly attractive for more workers (and consequently more firms).

As such, Region A becomes an exporter of industrial goods. Thirdly, the 'price index effect' implies that a larger share of workers in Region A determines lower prices for industrial products in the local market. In fact, more varieties are produced in Region A and they do not incur in trade costs since most firms produce locally. Thus, prices are lower in Region A relative to Region B. As such, the real wage in Region A as compared to real wage in Region B rises attracting more workers in Region A. The intensity of these three forces as well as the balance between them is determined by the level of trade costs between the two regions.

What factors will determine the economic integration? And why do firms tend to agglomerate? It is due to increasing return to scale, monopolistic competition, transaction costs and the occurrence of external economies and in turn shape firms' and labors' location behavior. Increasing returns implies that trade arises to take advantage of scale and variety gains from specialization. Increasing returns encourage manufacturing firms to geographically concentrate their productive activities rather than dispersing them in several locations as a way to benefit from the advantages of scale economies i.e. benefits in terms of production costs deriving from creating larger plants.

However, since each firm can increase production while reducing the average cost per unit of product, mere existence of increasing returns does not imply that production is automatically concentrated in a single location. Since firms cannot benefit from increasing returns by concentrating production, they will decide to produce in all locations where consumers are. Thus, it tends to spread economic activity to other parts of the region. Transport costs greatly influence location choices.

Firms decide whether it is more convenient to concentrate in just a single location and serve other regions by exports or alternatively incur in additional fixed costs to open up a second plant in a different location. Since each region has the same endowments (i. e. no a priori differences between regions), firms have no incentive to relocate from one region to another since they would face more competition without the possibility to serve the other region's market by exports due to high trade costs.

Is regional convergence possible in NER? How does clustering of firms in to a single location make possible in NER? There are three main forces that can shape the process of agglomeration/dispersion of economic activity in NER: location of firms to single location, lowering trade costs sufficiently and making NER increasingly attractive for workers and firms. When firms locate to a single location, it creates an incentive for suppliers of intermediates to locate production in the same location, and as production of final goods by clustered firms becomes gradually less expensive due to better access to intermediates, and this effect reinforces industry concentration.

In order to illustrate this particular case of high trade costs, consider for example that for an exogenous reason (i.e. historial accident) one worker migrates from region B to region A. Regarding trade costs, higher trade costs lower firms' profitability, and high trade costs that impede exports as firms in cannot compete in distant markets due to high trade costs. When trade costs are sufficiently low, the dispersion effect is not strong enough to impede concentration.

It implies that when trade costs are sufficiently low, the region will be more attractive to workers because of higher wages and more varieties, as well as firms for it will increase their profitability. It will also lower the competition effect so that firms can access to distant markets in addition to the local demand. This lower trade costs and migration of workers will in turn increase demand in NER and firms tend to locate where demand is larger in order to benefit from economies of scale, and demand becomes larger as production of manufactures concentrate. Puga (1996) suggests that agglomeration most likely occurs when the supply of labor is highly elastic.

Because it allows firms to draw labor force from the agricultural sector without notable increases in the rural wage rate. In other words, the labor migration from agriculture to manufacturing could only slightly affect the wage differential between rural and industrial activities. Therefore, agglomeration takes place for more rural workers intend to move in industry where wages are relatively higher. However, if the supply of labor is inelastic, then agglomeration does not take place, because the labor migration from agriculture to industry heavily affects the wage ratio between sectors. In case, the agglomeration in NER is more likely to take place as the labor supply is highly elastic.

To be continued ....