Cities Theory Crash Course

Urban Economics Crash Course

By Charles-Albert Ramsay
Dawson College
Economics Department
Westmount, Qc.

© 2012

The following lecture notes explain why cities exist, and why
most of our economic activity is linked to city work.

The lectures are based on a shortlist of seminal texts from Alfred
Marshall, and Jane Jacobs.

The lectures do not cover an exhaustive review of urban
economics literature, and they are not a complete course in
Urban Economics. These lectures were presented as a subtopic
in the course Advanced Studies in Economics (Fall 2012).

Diagrams and Summary Tables were created by the author as
pedagogical tools for the student. Any errors are my sole
responsibility.

Contents
1. Agglomeration Economies ....................................................................................................... 2
2. Hub Cities and Transport Costs ............................................................................................... 6
3. Jacobs’ Urban Economics ...................................................................................................... 10
4. City Instabilities ..................................................................................................................... 15
5. Jacobs’ Spectrum of Regions ................................................................................................. 20
6. Innovation in Jacobs’ Agglomerations ................................................................................... 29
7. Appendices ............................................................................................................................. 32

1. Agglomeration Economies

- Why Should I Care?

Production tends to locate in cities, which are an inescapable reality of
economic life since their inception 10,000 years ago. This leads to
many problems such as pollution, and traffic. Understanding how
cities work helps understand everything else.

- This Lecture Has 2 Parts

 Economies of Agglomeration

 Problems Created by Cities

- What are Agglomeration Economies?

Producers can save money by locating in the same area as other
companies. This is similar to economies of scale, but in this case the
companies don’t necessarily produce more.

 Economies of Agglomeration

Alfred Marshall (1920) proposed three reasons why producers can
save money when locating their plants near those of other companies.

A) Shared pool of labour
B) Input sharing
C) Knowledge spillovers

These three reasons are still used today to explain why cities exist.
The first reason has to do with the lower cost of acquiring labour in
the city, where companies can “share” labour. For example, aerospace
companies would benefit from being in Montreal because the city
already hires many specialists in this field. The city will probably train
more people in this field, so it will be possible to hire young recruits,
or even poach some older workers from competitors.

Second, producers would benefit from a larger market for raw
materials. Since Montreal produces airplanes, it is easy to find inputs
such as aluminium and specialized electronics in Montreal. This
attracts even more aerospace companies. Cities often offer a hub of
transportation networks, ports, airports, highways, which reduce the
transportation costs of inputs and outputs.

Third, producers can learn from one another in the city. Some
companies really do not want this, as their need for secrecy is
important. They would rather isolate themselves. Most companies

would probably benefit from this. These knowledge spillovers happen
in many ways, by hiring an employee from a competitor, by having
access to local experts and scientists, through specialized local media,
or by word-of-mouth.

These three advantages create “economies of scale” which can be
beneficial to even small organizations that don’t have a large scale of
production. It allows small companies to reduce their costs as if they
were a big company.

Cities have taken this ball and have run with it. Today, most people on
earth live in large cities. Economies are wealthier and more urban than
ever. Urban economies are also more innovative. In Quebec, three
quarters of patent activity is attributed to the Greater Montreal area,
which only represents half of Quebec’s population.

What can non-urban economies do? It seems they have had to focus
on offering low-cost inputs such as labour, or natural resources. When
so endowed, think of potash in Saskatchewan, or cheap labour in
China, these may prosper. However, their lack of diversity will leave
these economies vulnerable to foreign demand shocks.

 Problems Created by Cities

Cities also create many problems. Successful cities grow sometimes
uncontrollably, creating havoc for its citizens. Traffic, pollution, and
crime, are just some of the problems that can become unbearable in
large cities.

Scarcity of food, and energy, are also major problems. Montreal could
probably never be able to produce all the food Montrealers need to eat
and thrive. And once all the wood on the island has been cut to build
houses, where will the energy come from to heat them for the next
decades and centuries?

One solution cities come up with is to import materials, food, and
other products, from the hinterland, and other cities, to satisfy its
wants and needs. This builds the economy of neighboring regions.

Another solution cities are likely to use is to invent new ways of
dealing with its problems. Cities have (probably) invented things like:

 Corn, a more productive food plant.
 Tractors, a more productive earth moving technology.
 Sewers and Aqueducts, more effective water management.
 Electricity, a cleaner and more convenient energy source.
 Cars, Trains, Planes: faster, cleaner, and more productive than
horse and buggy.

Many authors such as Jacobs (1969) argue that a city’s ability to
invent, and innovate, and solve urban problems is the key to constant
economic development and growth. What helps a city solve problems?

There is no one answer to this. Diverse and inventive cities have been
dubbed Jacobs’ agglomerations. Jacobs believes cities should try to
master all the elements of the urban ecology, which are:

Good markets, the right kind of urban planning, strong science, a
propensity to reinvest profits, a propensity to invest productively, a
diverse industrial base, openness to new ideas, and the ability to
reverse-engineer key imports.

Cities can constantly create new problems, which can be salutary in
the sense that these problems create opportunities to generate new
solutions. These new solutions can spur new industries and fuel
economic development and growth.

However, cities can become vulnerable to these problems and fail.
Many, many, cities have fallen in history due to inadequate economic
growth and crushing social problems such as pollution and crime.

- Think Piece

Think of one thing you love about city life, and one thing you despise.

Submit 1 page essay in-class.

- Wrap-Up

Cities exist because of three advantages they bring together, which
rural locations cannot offer, these create savings for companies, that
we call economies of agglomeration.

Marshall (1920) identified these three advantages as being a shared
labour pool, a shared pool of other inputs such as materials and
specialized services, and knowledge spillovers between firms.

Cities also create problems which can become opportunities for future
growth. Cities have invented technologies such as corn and electricity,
which have solved important urban problems such as scarcity of food
and energy.

To be innovative, cities should favour a mix of economic and political
factors. Cities often fail when problems are left unsolved.

- Cheat Sheet with Memory Helper

Economic Agglomeration: A place where producers locate next
to each other, even with competitors.

Agglomeration Economies: Three advantages that cities can offer
companies to reduce their costs.

- References and Further Reading

Jacobs, J. (1969). The Economy of Cities. Vintage.

Marshall, A. (1920). Principles of Economics. London: MacMillan.

2. Hub Cities and Transport Costs


 Transport Costs
a. Theory

 Criticism

- What is a Hub City?

Cities are usually transportation hubs. Places where boats and trucks,
meet planes and any other mode of transportation. Producers who
locate near these hubs reduce transportation costs, as long as
congestion is not too important.

 Transport Costs

Jacobs (1970) argues that cities, being where the consumer market is,
are natural locations for producers. However, cities can become
congested, which seems inefficient for producers who leave to lower
density locations.

Jacobs argues the issue is more complex than this. She argues that
cities also reduce the transport costs of inputs to production. Inputs
are diverse, and may need to be imported from a variety of locations.
Being centrally located, and endowed of transportation hubs, cities
reduce the overall transportation cost of gathering these inputs.

The key to understanding what this means is to consider the diversity
and variety of inputs that go into the production of even simple
products.

a. Input Location-Transport Cost Theory

 Definitions
a. Four resources are located in isolated regions.
b. The resources are used to produce 1 product.
c. The four regions are equidistant from each other.
d. Roads link the four regions together in all directions.
e. The manufacturer must produce in 1 location only.

 Assumptions
a. The manufacturer prefers to reduce all transportation costs.
b. There are no tax breaks at any locations.
c. The roads are flat, and uncongested.

 Predictions
a. Manufacturing will locate at E (hub location).

Interpretation

Imagine a simple economy where 1 good is produced, such as an
office chair. The product is made with four inputs. Each input is
located in a different region. Wood is in the North. Plastic wheels are
in the South. Labour is West. Leather is East.

If there are six roads (straight lines) that link these regions, the hub of
those regions will naturally be chosen as the manufacturing and
assembly site, as it reduces the overall transportation costs of the
inputs. The manufacturer has to locate next to a road. There are thus
five possible locations (A, B, C, D, and E).

Assuming the transport costs are equivalent between the inputs, the
cheapest production location is E.

Input Location-Transport Cost Diagram

Wood

A

C E
Labour Leather
D

B

Wheels

 Criticism

You may object that companies must also consider the transportation
costs of the final good to the market.

In this case most of the chairs would be sent West, and some to the
other three regions. The final location decision might be E, or
somewhere between C and E.

You may also object that a company would not locate in an
unpopulated area. This is reasonable.

However, as E becomes the natural location of production, labour will
migrate to E, and a settlement will form. We can postulate that other
manufacturing activities would also migrate to E because of
agglomeration economies discussed earlier. This would create a
positive feedback loop for the E location.

- In-Class Activity

Imagine you are the CEO of Bombardier, Inc. You wish to produce
medium-sized commercial airplanes. Consider the following elements
and their transport costs.

Aluminium (for wings) from Saguenay by Boat
Electronics (for navigation) from Britain by Boat
Landing Gear (wheels) from Montreal by Truck
Wood (for furniture) from Worldwide by Boat
Final Plane to New York City flown by client

Draw a map, and decide where in Quebec you would locate your
manufacturing plant, as you try to reduce the total transportation costs
of production and delivery?

Is there missing information you would need to make the best
decision?

- Think Piece

The transport cost model argues that big cities are actually cheaper
production locations than small cities because their “central” location
decreases transportation costs. Would you argue this argument
counters the higher costs associated to big city congestion and delays
in delivery?

- Wrap-Up

Companies are always trying to reduce their production costs. Holding
labour, land, and capital costs constant, transportation costs are an
important factor in the location decision of producers.

All else equal, producers will choose to locate in the city, or region,
that minimizes their transportation costs. Jacobs argues that one must
consider the transportation costs of bringing inputs to the factory, and
the costs of distributing outputs to market.

According to Jacobs, cities do both. First, cities are central locations
relative to the diversity of natural and capital resources that are needed
for production. Cities also provide a local pool of labour. Second,
cities are markets in themselves for the products, so they also reduce
the distribution costs.

According to a simple model, the hub – even uninhabited and not
endowed of resources – will become the natural production location
because it reduces the overall transportation costs.



3. Jacobs’ Urban Economics

Cities are the heart and lungs of the economic system. But they are
hard to understand because we don’t have specific data to analyse
their core economic functions. There is however a radical theory
which does help to understand cities, innovation, and prosperity.


 Import Replacement

 Diversity Feedback

 Measurement

- What is Jacobs’ Urban Economics?

After explaining how urban neighborhoods should be designed in her
landmark 1959 book The Death and Life of Great American Cities,
Jane Jacobs wrote a formal theory on how city economies work as a
system, in her next book, The Economy of Cities, published in 1969.

The theory holds on one key concept. A self-reinforcing feedback she
called the “import-replacement cycle”, which she has observed the
world over, and which she documents using historical examples.

 Import Replacement

Jacobs refers to trade (exports and imports) between cities, as opposed
to most economists who refer to trade between nations.

In a nut-shell, the idea of import-replacement is quite simple. Instead
of consuming imports, city entrepreneurs will produce locally what
was once imported from another city or region.

Why do this?

Import replacements are usually better suited to the local market,
provide appreciated variety to consumers, reduce transport costs, and
are not subject to tariffs.

First, some imports may not be well-suited to the local market. For
example, American magazines are less appealing to Québécois readers

for linguistic and cultural reasons. It is reasonable to see an
opportunity for a local magazine market in Quebec.

Second, consumers have a preference for variety in consumption.
Imports contribute to diversifying their basket of goods. Better yet, a
replaced import is often modified to suit local preferences. Consumers
now have more choices.

Third, imports may be overly expensive due to transport costs. For
example, Asian-built cars are more expensive in Canada than cars
built in Detroit, USA, or Oshawa, Ontario, because they need to be
shipped half way around the world.

Finally, import tariffs increase the price of foreign products. For
example, Canada imposes a tariff on European cars. Locals may find it
interesting to produce because consumers appreciate lower prices.

How does this work?

Before the import-replacement process begins, an economy must be
able to afford the imports in the first place. Jacobs argues most
forward cities had started as successful supply regions. The export
revenue generated the capital needed to import consumption goods.

Let’s run through a hypothetical example from a cattle supply region
we will call Cattaliana.

 Cattle exports generate capital for Cattaliana economy
 Wine imports are ordered and consumed in Cattaliana
 Local cowboy breaks away from cattle ranch to launch winery
 5% of the wine imports are replaced by local wine
 Wine is “new work”, creates local jobs
 Wine is sold locally at first.
 Cattaliana starts to export wine to neighboring settlements
 Wine exports generate capital for Cattaliana economy
 Imports of shoes, umbrellas, and books are ordered

We see the cycle has the potential to be self-reinforcing. Local
entrepreneurs may copy the first “breakaway entrepreneur”, and start
to replace shoe imports with local production.

Of course, if local economic agents are content with their supply
region status, they may not engage in import-replacement.

 Diversity Feedback

It’s important to note that import-replacement automatically increases
the industrial diversity of the city. This has five positive effects on the
economy.

First, diversity of local production reduces costs for most producers
of old work. The city economy grows in scale, and scope. This means
there are more inputs available locally, more specialized tools,
machines, materials, knowledge, etc, which benefit producers in
general.

Second, workers are not the same. Each worker has individual
strengths, preferences, interests and training. A greater diversity of
local production therefore increases labour productivity by allowing
a better allocation of labour according to individual strengths.

Third, diversity of local production also increases innovation
opportunities, as different industries learn from each other. The
transmission of knowledge is more important when different
industries share the same banks, schools, and other specialized
services.

Fourth, the export revenue generated by import-replacement brings a
following of new and fresh imports. Remember that consumers prefer
variety. When sailing in far away places, shippers often pick up a wide
range of foreign goods which may find a market back home.

Thus, the new import wave will bring a variety of novel wares. This
means there can be a multiplier effect to import-replacement. As
export revenue grows, so does the quantity, and variety of imports.
Hence, the opportunities to replace these imports multiply with each
round of import-replacement.

Finally, industrial diversity reduces economic volatility. Industry
cycles are smoothed over as their relative weight within the local
system is reduced. A foreign demand shock for cattle in Cattaliana
won’t be as hard to take if the economy also produces wine and shoes.

 Measurement

How can one observe the import-replacement phenomenon?

It is difficult. Ready-made available data for city economies is not the
first priority of government agencies such as Statistics Canada.

But there are three ways of doing it.

First, an anthropological-type study using fieldwork can be useful. By
travelling in the city, interviewing entrepreneurs and bankers, one will

be able to identify new work activities, and try to link them to
previous imports.

The researcher will look for activity in the core, but also to see if any
workshops, or factories, have migrated to the city region, which
includes suburban residential areas, and the immediate hinterland of
the city.

Second, one may have access to Export-Import data from a statistical
agency that represents a metropolitan area. According to Jacobs’
theory, bursts in exports would precede increases in imports. Imports
would grow in both quantity and variety. These bursts in imports
would then be followed by bursts of new-work exports.

Exports and Imports would be constantly catching up, and passing,
each other, as both grow continuously. A trade deficit (X<M) would
be associated to slow growth overall. But this is not a bad thing as the
city recharges its batteries with fresh ideas from new imports.

A trade surplus (X>M) would be associated to a growth spurt, fuelled
by new work as old imports are replaced.

A third measurement of this phenomenon would be to break down
GDP figures by industry to try to see the apparition of new work in the
data. This is difficult as new work, which is truly innovative, is often
poorly categorised by statisticians, and lumped in to “other”
categories. Another difficulty is the absence of detailed industry
breakdowns for scarce “metropolitan” GDP data.

- In-Class Activity

Draw a 3-part flow chart depicting the evolution of contemporary
Chinese cities. Use the following elements.

Supply Region: Rice
Import replacement 1: Toys
Import replacement 2: Televisions
Import replacement 3: Automobiles

- Think Piece

What would David Ricardo say about this theory?

- Wrap-Up

Economic growth according to Jacobs is due to the replacement of
imports as local production. This is added to old work, and generates a
positive feedback of economic prosperity and increased trade.

The cycle is directly related to trade with other regions and cities.
Jacobs believes a built-in correction mechanism leads to the inevitable
decline of cities, which opens up room for the rise of other cities.

Import-replacement automatically increases the industrial diversity of
the city. This has five positive effects on the economy.

The phenomenon is difficult to observe empirically. One must use
field work, interviews, or data mining (GDP and trade data), to verify
if this actually happens. City-states may have more relevant
macroeconomic data, than nation-states.



4. City Instabilities

Cities are the heart and lungs of the economic system. But they have
their weaknesses. Inherent built-in instabilities will eventually bring
down even the world’s most powerful cities.


 Congestion and Pollution

 Labour Reducing Process Innovations

 Obsolescence

 Old-Work Transplants

 Non-productive Capital Outflows

 National Currencies

- What is a City Instability?

Instability is a built-in mechanism that will cause disruptions in a
system’s path. For Jacobs, instabilities are built-in forces that will hurt
an economy’s capacity to innovate and grow.

 Congestion, Pollution, and Crime

These instabilities are the easiest to understand. As cities grow, they
become congested, which increases transportation costs. The
congestion can also lead to pollution.

In older cities, overcrowding led to water pollution and poor
sanitation. Nowadays, brine water is treated, but congested roads lead
to air pollution.

Economic agglomeration and population overcrowding can lead to
increased crime levels. This is an important stress factor on cities, and
may accelerate a decrease in economic activity into an irreversible
decline.

 Labour Reducing Process Innovations

Being innovators, city economies also lead to improvements in
production processes. Not only do cities invent new products, they
also get old work done more efficiently. This is one of the negative
aspects of Schumpeter’s “Creative Destruction”.

Cities tend to invent machines, robots, automated technologies,
electronics, etc., that reduce the number of workers needed. These
technologically unemployed workers create a problem for the city. If
they are left idle they will need resources which could be invested to
grow the city instead.

 Obsolescence

Another aspect of Creative Destruction is the generally inevitable
obsolescence of what we produce. Good are replaced on the market by
a newer product. For example, the type writer is no longer being
produced as the new substitute of personal computers has made it
obsolete.

Cities that produce obsolete goods will feel the brunt of this drastic
change in the economy.

 Old-Work Transplants

An important aspect of Jacobs’ theory is that rural work is
transplanted city work. When city work becomes mature, the work is
tempted to leave the city to reduce its production costs.

City Regions and Transplant Regions will benefit from the arrival of
this work. But the city core may lose out if it does not find new work
for its idle labour.

 Non-productive Capital Outflows

City economies are not independent of social, political, and cultural
phenomena. Jacobs’ argues that cities may be negatively affected by
non-productive capital outflows if they are part of larger nation-state
countries, or worse, federations of nations.

The higher-order government, whether central, or federal, will impose
income, corporate, and consumption taxes on the population, wherever
it is located. The strong cities will end up paying most of the levies,
but may not be enjoying most of this spending.

On top of that, governments are not always good at investing money
productively. A productive investment is an expenditure that generates
a higher return. Economically, production investments will generate
more production and work.

Now we must note that State functions such as the justice system,
including contract, real estate, and patent tribunals, are crucial to the
existence of market economies.

Jacobs argues that governments tend to prefer “largesse” expenditures,
aimed at redistributing wealth across the land. As much as these
programmes are sound on a moral level, they do tend to transfer funds
from the city to benefit poorer, more backward regions.

Government regulations of crucial “club good” industries, can also be
detrimental to larger cities. For example, price regulation imposes
“national” prices to letter postage services, airfare, train service,
telephone companies, and television distribution companies.

One example, the Canadian government granted a monopoly to the
Bell Telephone Co. at the turn of the 1900’s. In exchange for this, Bell
was expected to service all of Canada, including rural areas, at no
exchange charge to the consumer. Urban dwellers ended up paying
higher prices on telephone services, to subsidize rural Canadians.

Jacobs argues that lower prices in Montreal and Toronto, would have
left money in these cities, which – maybe – could have found more
productive uses.

 National Currencies

When Jacobs realized the importance of city trade for the creation of
new work, she then realized that a city currency can greatly enhance
the trade feedback. A city currency will smooth over business cycles,
especially if they are related to trade.

When a city has a trade deficit (X<M), it could fall into a recession.
However, a free floating city currency would depreciate before
production levels are affected. This will bolster the foreign price of
city export goods, without affecting local prices and wages.

Foreign demand for the city currency would be perfectly aligned with
that city’s exports. The feedback information of the exchange rate
with other currencies would be perfectly useful information for the
city economy.

Inversely, when a city has a trade surplus (X>M), it could go into
overheating, which generates inflation. On strong foreign demand for
city exports, the city currency will appreciate, making the exports
even more expensive. This will have two effects.

First, exports sales will slow down, reducing inflationary pressures
from shortages on factor markets, such as the job market, or the steel
market.

Second, the city’s purchasing power for imports will rise. This will
fuel a new round of importing, which – hopefully – will in turn feed a
new round of import replacements.

Some city-states still exist. And they are some of the fastest growing
economies in the world. Singapore is a fast growing city-state that has
insisted on using a local city currency.

Few economies still use city currencies. Most states have
“nationalized” currency printing under a central bank. According to
Jacobs, this has concentrated the currency trade information feedback
on the largest, incumbent cities, of their nation. Hence, many countries
now have only one major city (ex: Paris, France).

Another problem with national currencies is that it may exacerbate a
disconnect between an important supply region and a metropolis. In
Canada, the exchange rate is very high because of the strong demand
for Alberta oil.

This is hurting the urban areas, whose economies are not based on
natural resources, but on manufacturing and services.

Nowadays, a city currency in Montreal would probably be worth less
than the Canadian dollar, to help it sell exports, and bolster its
economy. A regional currency in the West would still be strong, with
no negative impact on the Alberta resource economy.

Until the past century however, Jacobs (1985) argues most currencies
in human history were city currencies. Imperial currencies have
existed but many empires tolerated and encouraged city currencies
within their military realm.

The European Union did not follow Jacobs` advice when they created
a continental currency in 2000. The eliminated their national
currencies to merge them into the Euro. Advantages of a Currency
Bloc include lower transaction costs across borders, no more exchange
rate risk, and increased political integration mitigating the future
possibilities of war in Europe. This project was a long-time coming,
being a dream of German and French leaders for centuries, such as
Napoleon.

- Think Piece

Montreal used to be top-dog in Canada. Now it’s n.2 since political
instability sent so many headquarters to Toronto in the 1980’s. On top
of that, Canada is one huge federation that sucks money out of cities
to spread over its immense territory. Add to that the Canadian
currency which is too strong for Montreal’s manufacturing industries.

Would a city currency for the Greater Montreal Area be beneficial to
its economy? What are drawbacks?


- Wrap-Up

Import-replacing cities have built-in destruction mechanisms that will
slow its growth and reverse that into a decline.

First, agglomerations lead to congestion, crime, and pollution. If these
problems are not addressed, they may lead to the decline of the city.

Second, cities improve technology and processes, which usually
reduces the need for labour. New jobs must be created or else the city
will decline.

Third, city work may become obsolete, as competitive substitutes are
invented in other cities.

Fourth, cities cannot stop producers from relocating in lower-cost
locations. New work must be created to fill the gaps left by the exodus
of old work.

Fifth, cities are subject to taxes from higher-order governments who
may use the money in non-productive ways. The money is often spent
in “largesse” efforts towards other less wealthy regions.

Sixth, national currencies tend to counter the “natural” trade cycle of
import-replacing cities. This reduces the growth of the city, and the
influx of imports, which hinders future growth.



Jacobs, J. (1985). Cities and the Wealth of Nations. Vintage.

5. Jacobs’ Spectrum of Regions


Some economies are regional, and some are cities. Some regions are
thriving and others are not. Some cities are thriving, and others are
not. Jacobs provides five categories of regional economies to explain
where the wealth is, and where it is not.


 The Forward City

 The City Region

 The Supply Region

 The Transplant Region

 The Backward City

- What is a Spectrum of Economic Regions?

A spectrum is an axis that follows one variable. In this case, we will
compare cities according to their capacity to be dynamic economies,
capable of innovation and adaptation.

Jacobs (1970, 1985) theory explains how city-economies adapt to each
other, in relation to geography, trade, government, and business
forces. She presents five types of economic regions: The Forward
City, the City Region, the Supply Region, the Transplant Region, and
the Backward City.

In this text, these categories are aligned from one extreme to another,
from the most dynamic (forward city) to the least dynamic (backward
city).

Jacobs categories of economies is constructed from her own theory of
economic growth, which is grounded in her visits of cities across the
globe, economic history, anthropology, and a critical evaluation of
macro-economics.

The five categories are differentiated according to variables such as
density, industrial diversity, resource endowment, company size, the

import-replacement function, product innovation, process innovation,
employment, price levels, and immigration patterns.

 The Forward City

A “Jacobs Agglomeration” is a city which is diverse, growing, and
inventive. It is an inductive conclusion based on several criteria. Such
a city tends to create opportunity for migrants and youth, tends to
invent new products and industries, and tends to be very open to trade
and science.

We will call these economies “Forward Cities” for their unique
capacity to constantly innovate, generate new products, and adapt
smoothly to changing trade patterns. This quality is what makes
Forward Cities the economic heart and lung of the rest of the system,
and provides technology improvements, and prosperity to many other
economies.

NOTE – Jacobs never used the terms Jacobs’ Agglomeration, or
Forward City. She used the term “import-replacing city”.

Economic literature now uses the term Jacobs’ agglomeration and the
term “forward city” is original to this text. It serves to illustrate the
economic development quality of these cities, and to differentiate them
from “backward cities”, since they are opposites on the Jacobs
spectrum of economic regions.

Forward Cities can be large or small. But they do grow rapidly at
some point in time. Most of them are now quite large, and are thus
often dubbed as a “metropolis”, or “economic capital”.

Jacobs identifies Detroit, of 1910, as an example of a forward city.
The density of Detroit at the time was relatively high, compared to
smaller rural settlements of that period. The city was then bustling
with hundreds of car design and manufacturing companies, a new
industry that was in a phase of rapid development and expansion.

The industrial diversity of the city was growing at the time, as Detroit
was replacing German automobile imports, into local production.

As most forward cities, the geographic location of Detroit did not
confer any particular resource endowments such as minerals or oil. As
the name of city indicates, the city was a natural location for a
maritime port, although set well inside the North-American continent;
a natural link between Great Lakes waterway. The city was also at the
hub of road transportation between the US Midwest and southern
Ontario.

Economic history literature indicates that 1910 Detroit hosted a
variety of small and medium sized automobile companies. It came to
be known as “Motor City” for this reason. Of the hundreds of

carmakers, the industry eventually consolidated into three large
multinationals (GM, Ford and Chrysler) whose headquarters are still
in Detroit.

According to Jacobs, Detroit’s growth is due to its “import-
replacement”. Detroit did not invent the automobile, which was a
German invention. However, Detroit was the birthplace of this
industry in North America, and greatly contributed to the refinement
and improvement of both the product, and its production process.

This led to a strong demand for labour, high employment in the city.
This attracted people to the city, whose population grew.

The exports of cars enabled the city to import many higher-order
goods, and the wider variety of local production helped keep overall
prices low. The price of cars themselves was continuously decreasing,
as the technology, and processes improved, and as scale increased.

Instabilities associated to forward cities are:

o Unaddressed congestion, pollution, crime
o Eventual loss of work to lower cost regions
o Obsolescence
o Capital withdrawals from nation-state policy
o National currency

Risk factors associated to forward cities are:

o To gradually stop import-replacing.
o To stop indigenous innovation.

What can governments do to help these economies?

o Provide positive feedback mechanisms such as city currency.
o Avoid non-productive capital outflows by nation-state.
o Invest in productive investments such as new
products, and science.
o Encourage Breakaway Entrepreneurship.
o Address pressing problems of urban life. Solutions may
become opportunity to invent new industries.

 The City Region

Growing cities have a direct impact on their surrounding areas, often
rural, and sparsely populated at first. Analysts now speak of “Greater
Detroit Area”, or of Metropolitan Areas, which include “Outer
Suburban Rings”.

Once the metropolis grows outside its initial borders, these areas
become engaged in the intricate network of the city economy. Their

production diversifies as old-work is transplanted outside the now
congested core city. City regions directly benefit from the
inventiveness of the core city, without having to deal with the
congestion and pollution.

The density increases, but remains low. The industrial diversity can be
very high, surprising to many. The structure of this economy remains
diverse in production, scale, and scope.

The area does not need any particular natural resource endowment,
other than land to build factories, houses and office space.

The area is indirectly engaged in import-replacement, but this is due to
its integration with the city economy.

City Regions can be product innovators, or not. This is because
producers transplant production here to save on costs, not out of a
creative need to constantly invent new products.

Thus, these producers are very much interested in cost-saving process
innovations, especially labour-saving technology.

The level of employment is high and growing, which attracts
migration from other regions, further out from the city.

Price levels tend to be low, as cost-saving measures, and diversity of
local production, are the norm.

Instabilities include:

o The eventual loss of work to lower-cost regions
o A reduction in arrival of new work from a decline of the city
o Obsolescence
o Capital withdrawals from nation-state policy
o National currency

Policy prescriptions:

o Agree to what is best for core city.
o Invest in cost-cutting process innovation.

 The Supply Region

Many Supply Regions – also known as resource economies – are quite
wealthy, as they are usually endowed with a highly demanded natural
resource.

But Jacobs argues they are inherently fragile, and lack a capacity to
adapt to changes in trade patterns. She qualifies them of being

“backward” economies, along with Transplant Regions, and Backward
Cities.

An example of a Supply Region near Detroit is the Ohio iron ore
region, which saw the rise of the Cleveland Cliffs mining company.
Naturally endowed with a key mineral for making steel, widely used
in making automobiles, the rise of the Detroit economy created what
Jacobs calls a solvent market for Ohio’s iron ore, and steel foundered
in Cleveland. The mining area of Cleveland Cliffs is not a densely
populated area, and its economy is highly concentrated in iron ore
mining. Without the iron ore, one can wonder how much economic
activity would take place there.

The mining industry is typically consolidated, made up of a few large
companies. They are content in supplying other regions and do not
engage in import-replacement. Generally, they are not known for
product innovation.

Supply regions are focussed on reducing production costs, and
improving processes. The job market can grow at first, but usually is
very stable or declining as labour-reducing technology is introduced.

Prices can be high as most consumer goods need to be imported.
However in this case, Ohio mines are relatively close to important
cities such as Detroit and Cleveland, so prices here would be relatively
low.

Migrants would be attracted to the area when the mines are being
constructed, but immigration would be halted after their normal
operations level-off.

Supply regions that are struggling often find a way to receive funds
from wealthier supply regions, or from wealthier forward cities. In
Canada, the federal government transfers equalization payments to
poor provinces, which are generated from taxes collected in wealthy
provinces such as Alberta (wealthy supply region), or Ontario
(Toronto is wealthy forward city). These capital injections may not be
economically productive, as they can generate a disposition of
dependence toward wealthy areas. Politically, the transfers may be
argued to be moral. But many economists believe these transfers
contribute to keep poor regions in poverty.

Another structural problem that supply regions may face is if they are
part of a currency union with other supply regions specialized in
different industries. The exchange rate will follow the trends of the
industries with the largest trade volume, and these patterns may not
help the smaller supply regions. For example, Alberta’s oil patch
dictates fluctuations in the Canadian exchange rate. However, the oil
industry cycle may not match the cycle for coal, which is the main
mineral export of Nova Scotia. The Canadian dollar may be hurting
the Maritime economy more than it helps.

Instabilities:

o Capital injections from nation-state policy
o National currency disconnect

Risk factors are:

o A sudden drop in “foreign” demand
o New competition from lower cost region
o Introduction of a new substitute good which reduces demand
o Introduction of a new production substitute which clears
population
o National currency

Policy prescriptions:

o Diversify industrial base to reduce foreign demand risk.
o Constantly invest in cost-cutting process innovation.
o Avoid monopsony power on local labour that discourages
breakaway entrepreneurship.

 The Transplant Region

This type of economic region is similar to the Supply Region in many
ways. However, its inception occurs differently.

The Transplant Region is brought to life by the transfer of work from
a congested city to a lower-cost production area. Its role is to supply
cities and other regions with a specialized product.

However, its economic raison d’être has nothing to do with natural
resources. It can be anywhere on earth, as long as transport and labour
costs are lower than in the city.

Under the umbrella of the Detroit automobile industry, a city such as
Flint, Michigan, is a perfect example of a Transplant Region, also
known as a “company town”.

Flint is where General Motors was created in 1908, an automobile
consolidator that swallowed Buick and Chevrolet, along with dozens
of other Detroit-based carmakers.

GM had decided to set up in Flint to avoid the high costs of the then-
bustling Detroit. The city was less than two hours away, so GM could
bring workers over to this specialized area and continue to benefit
from knowledge spillovers from the Detroit economy.

As most Transplant Regions, the city never diversified out of car
making. GM eventually built its headquarters in Detroit, but Flint
remained a key manufacturing location for a long time. However,

lower cost locations appeared over the last century and eventually,
Flint lost one plant after the other. Finally, in 1999, GM decided to
shut its last plant in Flint, which made large Buick sedans that had
gone out of fashion with SUV craving consumers.

The density of Transplant Regions is usually low, on purpose, to
reduce overall costs of living, wages and transportation.

At first, the absence of industrial diversity is not a problem, as this
large, single-company, transplant comes “out of nowhere”. It is seen
as a “godsend” by local townspeople of a previously poor region.
However, over time, the region may lose this work as the factory is
transplanted again, to an even-lower cost region.

A Transplant Region usually does not engage in import-replacement
because the local employer is alone, very large, and dominates the
political and economic culture of the region. This kind of monopoly
on the labour market is called a monopsony, and research indicates
they tend to discourage breakaway entrepreneurship and any form of
competition for local labour.

The factory’s strategic management decisions are not made locally,
they come from a head quarter located outside the region. In this case,
GM’s Flint plants would follow orders from Detroit. Local initiative is
limited to process innovations, and product innovations are not
expected. If foreign demand is strong, the transplant region will enjoy
growing demand for labour, and worker migration toward the region.

Risk factors are the same as for supply regions.

 The Backward City

To be dubbed “backward” is insulting. Jacobs actually writes that
most cities in the world, and throughout history, have a backward
economy. The good news is that a Backward City can evolve into a
more forward economy.

Most people would say a backward economy is in decline, or is non-
competitive. They may be shielded from other, more competitive
economies, by subsidies, import tariffs, or other barriers to trade.

Modern-day Detroit has definitely become a backward economy. Its
population is declining, neighborhoods are abandoned, and houses are
boarded up. Poverty and crime tend to be rampant, and especially
difficult to live with, in high density cities in decline.

The size of companies tends to vary within the city. In the case of a
declining city, many large companies have probably left, leaving a
gaping hole in the fabric of the economy. In the case of stagnant small
towns, companies are generally small and not growing.

This city is not import-replacing. It is not inventing new products. It
probably is not very good at process innovations either. Because of all
this, consumption goods need to be imported at a high price, and the
non-competitive local producers output is overly expensive.

A note: Jacobs insists that price levels must be considered as relative
to local wages. A foreigner travelling to a stagnant city may find
prices are lower than what he is accustomed to at home. But that does
not mean the locals can afford these prices.

Jobs are scarce and population is declining. Survival depends more
and more on the local stock of natural resources and less and less on
trade and productive investment.

The risk for this type of regional economy is that things get worse
before they get better. A population exodus can relieve the city of the
strain of providing for everyone. Remittance from expatriated workers
may become the only capital inflow to the city.

Jacobs recommends that these cities avoid direct competition with
large dynamic economies. They should start to construct a local
symbiotic network of workshops and small factories that replace low-
technology imports. This new production usually can be sold to other,
neighboring backward economies.

- In-Class Activity

Associate each city to an economic category. Work in groups.
Use the internet if possible.

Montreal 1985 Montreal 2007
Magog Laval
Val d’Or Saint-Jérôme
Kingsey Falls Valcourt
Toronto Markham
Sudbury Gaspé

- Think Piece

Think of your home town and think of a place you could establish
yourself in the near future. Associate them to an economic category.
Where would you probably enjoy the most prosperity?


- Wrap-Up

Economies can be analyzed under five categories, according to their
ability to grow, evolve, and adapt to changing conditions.

The Forward City is the strongest economic category. These are
import-replacing cities where employment is high, and prices are low.
They are usually very diverse economic systems, where symbiotic
networks of small and large companies interact.

The City Region is the immediate neighbor of the Forward City,
where overflow production is located. Many factories are transplanted
here as the core becomes congested and expensive. Employment here
is high and prices low.

The Supply Region is a resource-based economy. Local consumption
goods are imported, using funds from specialized export work.
Employment may be high, but usually dwindles, and prices are high as
well.

The Transplant Region is manufacturing-based (or services) town
where mature city work was transplanted to reduce land, and labour
costs. Employment can be high, but this economy is vulnerable to
foreign demand shocks.

The Backward City is a declining economy, which may in the past
have been a successful supply region, or transplant region.
Employment is low and declining. Prices are high and rising.




6. Innovation in Jacobs’ Agglomerations


Jacobs’ agglomerations don’t just replace imports, they also nurture
product and process innovations. This is the key to understanding the
geography of Schumpeter’s Creative Destruction.


 City Inventions

 Diversity trumps Specialization

- What is Innovation in Jacobs’ Agglomerations?

Jacobs (1970) argues that cities are natural environments for economic
change because imports come through the cities. This is because cities
are located around ports and other transport hubs. Cities can afford to
import new and innovative goods from foreign economies with the
money earned from their exports.

But who invents the new things others will import?

Cities, answers Jacobs.

 City Inventions

Jacobs theorizes cities invented almost everything that came to a
market. Even agriculture and farming technologies.

Consider the previous example of office chairs. A share of the
production will eventually be exported from E-City as foreigners
become aware of the existence of the product. This export, brings in
extra money to E-City, who can use it to import goods from abroad,
which are not produced locally. Let’s assume E-City imports fancy
dinner chairs from abroad.

Most economists would believe this trade is a good thing and these
economies should specialize in the fields where they hold a relative
comparative advantage. This is the Ricardo view.

Jacobs argues most cities don’t behave this way.

Jacobs argues that cities copy each other, to everyone’s benefit. E-City
has got wood, leather and plastics. It can use “reverse-engineering” to
copy the imported good and produce it locally. The import becomes a
knowledge spillover between economies.

Further, the added local production also increases money stocks in E-
City, which enable its citizens to import more fancy products. This is a
positive feedback loop directly related to trade.

Trade brings in new ideas to cities that often copy the imported
products and thus increase their local production levels. Furthermore,
Jacobs argues that cities use imports as inspiration. These imports fuel
innovation.

Consider the imported dinner chair example. Not only will E-City
start producing dinner chairs. But E-City might also invent a whole
type of chair, inspired by the fabrics, the assembly techniques, and the
overall design of the imported good.

As producers act on the profit incentive, and as consumers love new,
different, and better products, market-oriented cities become the
natural location for inventive companies. The trade cycle generates a
second positive feedback loop of invention and innovation.

 Diversity Trumps Specialization

Most Jacobs’ agglomerations are typically very diversified economies.
Think of Tokyo, Montreal, Singapore, Shanghai, New York, San
Francisco, Mexico City, etc…

These kinds of cities are now considered to be the engines of
economic growth by modern macroeconomists.

But this observable fact flies in the face of orthodox economic theory
which argues that Ricardian comparative advantage should lead to
economic specialization and increased production.

What does diversity mean?

Industrial diversity refers to the variety of goods and services which
are produced in a city, a region, or a metropolitan area.

Some cities such as Montreal are very diverse. Our metropolis
produces a variety of final goods such as transformed food products,
chemicals, airplanes, pharmaceuticals, refined petroleum, cardboard,
etc. Montreal also produces a variety of services such as TV, radio and
print media, finance, insurance, law council, accounting, health, and
education.

Diversity has two main advantages, according to Jacobs (1970). First,
it reduces vulnerabilities to foreign trends.

Second, and more importantly, diversity increases innovation
because science and technology spill over different industries with
greater ease when these industries share the same city.

Solutions to technical problems can be useful in very different
industries. For example, the clothing industry has come up with
Velcro technology used in shoes and other garments. This technology
has proven to be very useful in wide array of industries, such as
aerospace. Surprisingly, wings are attached to the fuselage of some
planes with hard-pressed Velcro-type technology.

Jacobs’ point is that in a diverse city, very different industries can
learn from each other. In diverse cities, technology and knowledge
will spillover more quickly from one industry to another. Economists
have dubbed this phenomenon cross-industry knowledge spillovers.

In the end, you can ask yourself if diverse cities are wealthier than
specialized regions. They can be. Studies show that Jacobs
agglomerations typically grow at a more steady and constant pace,
which over time trumps the typically rocky path of high-flying
resource economies.

- Think Piece

The 2008-09 recession was much harder on Toronto, than it was on
Montreal. Toronto’s economy is specialized in the automobile
industry, which was the focal point of the economic slowdown.

Borrowing from the idea of “resilience” in psychology, would you
argue that politicians and policymakers should focus on making their
economies as “resilient” as possible?

- Wrap-Up

Jacobs agglomerations are more dynamic economies in the sense that
they are more diverse and innovative than others.

Jacobs argues that trade will increase the strength of the hub city, as
imports offer opportunity for new ideas. Cities often copy imports and
produce them locally, adding to the local production level.

Jacobs also argues that trade fuels the innovative nature of companies
in cities, because that is where the imports are first seen by nationals.
Urban producers use imports as inspiration to invent new products.

Jacobs agglomerations tend to be more diverse because they invent
new industries that add to previous activities. Jacobs argues this
diversity is enviable because A) it protects the economy from violent
foreign demand cycles, and B) it leads to cross-industry knowledge
spillovers which generates more innovation and economic
development. If trade is
the fuel of innovation.
Specialized economies can be very wealthy, but studies show their
economic cycles to be more pronounced and overall generate less Does free trade
prosperity than diverse cities. make innovation free?

- Cheat Sheet with Memory Helper

Hub City: A city located on a transportation hub,
such as a crossroads of highways or
railways, a deep water port, or a major
airport, or all of the above.

Company Town: An economy dominated by a large
employer, such as a mine, or a
manufacturing plant.

Cross-industry Spillover: The phenomenon of one industry
adopting technology designed in a
very different industry.


Hall, P. (1966) The World Cities. McGraw-Hill.



7. Appendices
The Jacobs Summary Table, and the Import-Replacement Diagram are
on the next five pages.

TYPES OF ECONOMIES Forward Cities City Regions Supply Regions Transplant Regions Backward Cities

METRO OUTER RINGS,
MONIKERS METROPOLIS RESOURCE ECONOMY COMPANY TOWN CITY IN DECLINE
SUBURBS, HINTERLAND

GREATER DETROIT; CLEVELAND CLIFFS
EXAMPLES DETROIT 1900 FLINT, MICHIGAN DETROIT 2010
WINDSOR, ON STEEL

DENSITY HIGH LOW LOW LOW EITHER

INDUSTRIAL DIVERSITY HIGH HIGH LOW LOW LOW

RESOURCE
NOT NECESSARY NOT NECESSARY MANDATORY LABOUR IS SUFFICIENT BECOMES MANDATORY
ENDOWMENT

IMPORT-REPLACING YES MAYBE NO NO NO

VARIETY FROM SMALL VARIETY FROM SMALL VARIETY FROM SMALL
SIZE OF WORKPLACES LARGE LARGE
TO LARGE TO LARGE TO LARGE

JOBS HIGH HIGH EITHER EITHER LOW

PRICES LOW LOW HIGH HIGH HIGH

IMMIGRATION INCOMING INCOMING EITHER EITHER OUTCOMING

TYPES OF ECONOMIES Forward Cities City Regions Supply Regions Transplant Regions Backward Cities

PRODUCT INNOVATOR YES EITHER NO NO NO

PROCESS INNOVATOR EITHER YES EITHER EITHER NO

creative destruction, capital outflows dependency money, dependency money, dependency money
nation-state capital monopsony power monopsony power
INSTABILITIES outflows,
congestion, pollution

To gradually stop That "old-work" is lost Foreign demand shock. Foreign demand shock. It can't get worse.
import-replacing, to transplant regions. New consumer New consumer It can only get better.
or to stop indigenous That newer "old work" substitute shock. substitute shock.
innovation. stops flowing from the Introduction of a new Introduction of a new
RISK FACTORS core city. production substitute production substitute
which clears population. which clears population.
New competition from New competition from
lower cost region lower cost region

Avoid non-productive Agree to what is best Diversify industrial base Diversify industrial base Start replacing "simple"
capital outflows by for core city. to reduce foreign to reduce foreign imports to sell to
POLICY PRESCRIPTIONS nation-state. demand risk. demand risk. neighboring backward
cities.

Invest in productive Invest in cost-cutting Invest in cost-cutting Invest in cost-cutting
investments such as process innovation. process innovation. process innovation.
new products, and
science.
Encourage Breakaway Avoid monopsony Avoid monopsony
Entrepreneurship power. power.
Solve urban problems.

STEP 1 - NORMAL TWO-WAY TRADE

Money is sent back for clothes

French Fashion exported to Montreal

Money comes in

Montreal, New France

Beaver pelts exported to France
Montrealers hunt
beavers for pelts

PARIS,
FRANCE

France makes
beaver felt hats

STEP 2 – IMPORT IS REPLACED
Some of the Less money is sent
clothes money back for clothes
diverted to local
producer

Less French Fashion exported to Montreal
New
workshop
makes clothes Montreal, New France

Montreal skins
Beavers for pelts

Advantages:
Beaver pelts exported to France
No transport costs, no shipping delays. PARIS,
FRANCE
Custom work is possible.

Create local jobs.

Generate demand for neighboring supply
cities (textiles, buttons).

STEP 3 – EXPORT TO OTHER CITIES

Clothing
workshop

Beaver pelt
trade

Montreal, New France

PARIS,
Trois-Rivières, FRANCE
New France
Montreal fashions are now exported to neighboring cities such
as Trois-Rivières.

This trade nurtures a second wave of export-funded imports to
Montreal, which may come from Paris, or any other city in its
trading circles.

The import-replacement cycle can thus start all-over again with
whatever Montrealers decide to import, and produce locally.

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