Regional Economic Agglomeration and Openness: The Economic Development of the North Eastern Region (NER)
- Part 2 -

Dr. Bishwanjit Singh, Loitongbam *

The classic example of a success story of economic benefit of regional convergence is the early years following German re-unification in 1990. Prior to the fall of the Berlin Wall, East Germany has been well integrated into foreign trade and its exports over GDP (40%) were higher than in West Germany (29%).

After the initial re-unification in the early 1990s, the convergence of per capita incomes between East and West Germany has slowed down. During the mid-1990s, growth rates of East Germany exceed than that of West Germany and, since then, growth rates in East and West Germany have levelled off and differences in factor endowments were even more pronounced, resulting cross-border movements of capital, labor, and goods. Unemployment has been persistently above the West German level.

East Germany States trade less with the rest of the world than their West Germany counterparts, accounting for 10-13% trade share for East Germany with compared to 24% for West Germany. The share of inward FDI and presence of parents of multinational firms located in East Germany are comparatively low (Buch & Toubal, 2009).

Levchenko and Zhang (2012) examine the welfare gain from the trade integration of Eastern Europe after the fall of the Iron Curtain and the role of comparative advantage in the gains from trade. The paper found that Western Europe countries gain mainly expansion of markets, while Eastern European countries mostly benefit from technological transfer from Western to Eastern Europe. Eastern Europe countries are expected to experience large distributional effects due to trade opening.

How does agglomeration benefit NER? According to Alfred Marshall, externalities have three effects: labor market pooling, availability of specialized intermediates and technological spillover effects. First, firms that cluster in a single location take advantage of the availability of pooled labor force and reduce the risk of unemployment as compared to an economy where firms are dispersed.

It implies that there is an increase in efficiency emerging from an agglomerating industry connected with a local pooled labor market. Second, when firms concentrate production into a single location they also take advantage of the presence of specialized suppliers of intermediate goods and inputs through the creation of backward and forward linkages between producers of final goods and their suppliers of intermediates (Krugman and Venables, 1995).

Third, clustered firms are supposed to benefit from technological spillovers consisting in unintentional flows of knowledge arising from proximity to one another and benefitting the industry as a whole. As a result, firms are encouraged to localize in a single place to benefit from external knowledge arising from other firms' activities (i.e. R&D).

2.2 Trade Liberalization:

Historically, rapid expansion of international trade renders to high growth in the world. Thus, openness for trade, capital flows, and migration can have an impact on economic growth. Buch & Toubal (2009) examined whether international openness causes higher domestic growth in the context of the fall of the Berlin Wall in 1989.

They found that geographical variables play a very significant role in regional openness and higher trade openness increases regional per capita income. What will be the impact of trade liberalization on the geographical distribution of industries of NER?

According to traditional trade theory, international trade between countries, both of them benefit of the gains of comparative advantages. The rationale behind trade liberalization suggests that greater competition would induce the production units to improve productivity, which is crucial for accelerating the overall economic growth.

Since firms respond to the world market signals, the commodity structure of the country's trade would undergo changes in accordance with the changing patterns of specialization. According to the Heckscher-Ohlin-Samuelson (H-O-S) model, trade liberalization would induce reallocation of productive resources from the import competing industries to those industries where the country has comparative advantages.

As far as NER's comparative advantage is concerned, it is believed that it has comparatively trade advantage in producing labor-intensive, semi-skilled-intensive and unskilled-intensive products.

Table 1 illustrates the SITC (Standard International Trade Classification) Revision 3 two-digit products that accounted for less than 2 percent of total exports during 1990-2013.

India's export of labor-intensive products and semi-skilled intensive products is either relatively small or more or less constant, and some products are even declining: footwear, tea, inorganic chemicals, spices, tobacco, beverages, etc. From looking at India's pattern of trade, how can the NER find out its opportunity to participate in India's trade exports? The answer lies in improving the industrial capabilities and strength of the NER and its major industries i.e. its comparative trade advantage.

Industries in the NER are engaged mostly in manufacturing food products, and wood and wood-based products, as well as dealing in some metallic industries, tea, oil, gas and mining sectors (Bruner et al., 2010). Some other potential sectors of this region are agriculture, horticulture, fish farming, handloom and handicrafts and tourism (Goswami et. at., 2012).

It is also in line with the ASI survey report 2011-12. According to the report, the outputs of the 13 major industries include tea, food products, beverage, other non-metallic mineral products, etc. Most of them are labor-intensive, unskilled-intensive and semi-unskilled products: an opportunity for the NER to pursue the specialization and production of these products. Table 2 shows the shares of seven major industries in terms of the output within each state of the NER during 2011-12.

Comparing Table 1 and 2, shows that the major industries of the NER have a comparative advantage in producing a majority of the products listed in Table 2, which are mostly labor-intensive, semi-skilled-intensive and unskilled-intensive.

The NER should focus on specialization on these industries and try to increase firms' productivities in producing these products.

To be continued ....