NOVEMBER 18, 1993

Regions of Europe (Inaugural Lecture)
Jacques Drèze (CORE, Université Catholique de Louvain)

NOVEMBER 19, 1993

Economic Geography

Integration, Specialization and Adjustment
Paul Krugman (MIT and CEPR) and Anthony Venables (London School of Economics and CEPR)
Discussant: Alasdair Smith (University of Sussex and CEPR)

A General Interregional Equilibrium Model
Carlos M. Asilis (Georgetown University) and Luis Rivera-Bátiz (Universitat Pompeu Fabra)
Discussant: Thomas Gehrig (University of Basel)

On Job Creation in Cities
Masahito Fujita (University of Pennsylvania), Jacques Thisse (CERAS, École Nationale des Ponts et Chaussées, Paris and CEPR) and Ives Zenou (Université de Paris.
Discussant: Massimo Motta (Universitat Pompeu Fabra)

Cities and Growth: Theory and Evidence from France and Japan
Jonathan Eaton (Boston University) and Zvi Eckstein (Tel Aviv University, Boston University and CEPR)
Discussant: David Canning (Queens University, Belfast)

Patterns of Growth

Barriers to Technology Adoption and Developement
Stephen Parente (University of Minnesota and Federal Reserve Bank of Minneapolis) and Edward C. Prescott (Northeastern University and Federal Reserve Bank of Minneapolis)
Discussant: Angel de la Fuente (Institut d’Anàlisi Econòmica and CEPR)

Aggregate and Regional Disaggregate Income Distribution Fluctuations
Danny Quah (London School of Economics and CEPR)
Discussant: Albert Marcet (Universitat Pompeu Fabra)

Measuring Institutions: Empirical Analysis of Property Rights and Economic Performance
Stephen Knack (IRIS, University of Maryland)
Discussant: Giorgia Giovannetti (Trinity College, Cambridge University and Università di Cassino)

NOVEMBER 20, 1993

Political Economy

Federal Fiscal Constitutions, Part Two: Risk Sharing and Income Redistribution

Guido Tabellini (Università Bocconi, CEPR, NBER and IGIER) and Torsten Persson (Institute of International Economic Studies, CEPR and NBER)

Discussant: Ramon Marimon (Universitat Pompeu Fabra, CEPR and NBER)

Uneven Technical Progres and Job Destruction

Daniel Cohen (Université de Paris I, École Normale Supérieure, CEPREMAP and CEPR) and Gilles Saint-Paul (DELTA, Paris and CEPR)

Discussant: Ramon Caminal (Institut d’Anàlisi Econòmica)

Distribution, Redistribution and Capital Accumulation

Per Krusell (University of Pennsylvania) and José Victor Ríos (University of Pennsylvania)

Discussant: Yannis Ioannides (Virginia Polythecnic Institute and State University, Blacksburg)

Public Education and the Evolution of Income Distribution

Raquel Fernández (Boston University and NBER ) and Richard Rogerson (University of Minnesota and NBER)

Discussant: Teresa Garcia-Milá (Universitat Pompeu Fabra)

Labour Mobility

Diverging Patterns in a Two-country Model with Endogenous Labour Migration

Pietro Reichlin (Università di Napoli “Federico II”) and Aldo Rustichini (CORE, Université Catholique de Louvain)

Discussant: Jordi Galí (Columbia University, Universitat Pompeu Fabra, CEPR and NBER)

Migration in the EC

Riccardo Faini (Università degli Studi di Brescia and CEPR) and Alessandra Venturini (Università di Bergamo)

Discussant: Iain Begg (University of Cambridge)

Regional Labour Market Dynamics in Europe and Implications for the EMU

Jörg Decressin (Harvard University) and Antonio Fatàs (INSEAD, Paris)

Discussant: Juan Francisco Jimeno (FEDEA)

INAUGURAL LECTURE
Regions of Europe

Jacques Drèze (CORE, Université Catholique de Louvain)

      The European community as it is currently defined is a “Europe of Nations”. Within each member nations there are properly defined regions. Some of these regions such as Corsica or Andorra have compelling reasons why they as regions would like to exist independently of the nation to which they currently pertain.

      In his paper, “Regions of Europe: a Feasible Status, to be Discussed”, Jacques Drèze develops the idea that these regions could exist as separate entities within the framework of the European Community. He allows that various changes must be made to the current set of treaties that form the European Community, but that these changes are possible in order to organize the Community on a flexible basis. Drèze focuses on an arrangement whereby each region is a separate entity belonging to the community. Drèze briefly addresses some of the political regarding the formation of a “Europe of Regions”, but concentrates on the economic issues involved.

      He envisions citizens of regions as having no national citizenship, while their citizenship of the Community would carry with it all the rights granted to European citizens in the Maastricht Treaty. These “Citizens of Europe” should therefore have some independent representation in the European Parliament. He also states that these regions should not issue currency, but rely on the ECU. With no currency of their own, these regions would have to abstain from pursuing separate monetary policy objectives.

      The bulk of the paper is devoted to an analyzing if a “Europe of Regions” would be Pareto improving. This outcome would occur if regional autonomy would create efficiency gains great enough to outweigh the losses suffered from no longer belonging to any nation. In order to explore this question Drèze outlines the most general problem of finding the optimal grouping of regions into potentially different national boundaries. He focuses his theoretical discussion on a very special case of this more general problem, where attention is restricted to transfers of regions from preexisting nations to a hypothetical entity called “Regions of Europe”. By extension, the issues that arise in this special case will be a subset of those that would be encountered of the more general problem were studied.

      Drèze notes that regional autonomy would have both benefits and costs both to the region and nation involved. These effects would be stem from changing the allocative, stabilizing and redistributive roles of the central government. For example while the region would gain the autonomy to design and administer institutions in a way suited to their specific needs, they would lose the contribution of the national government in the fixed costs of these institutions. If regions were to exist separately, the stabilizing role of the central government would also be impaired as mutual insurance between regions would induce greater moral hazard problems. The conclusion is that these costs and benefits must be weighed by any region to determine if secession is in their best interest.

      Drèze adds that the allocative and stabilizing gains and losses should be the only factors in determining the desirability of secession. Although secession might have distributive implications, for example if the region were a net contributor to the national budget, these costs or benefits can not be included when looking for Pareto improvements. That is to say that these redistributive transfers from (or to) a region can be thought of a lump sum payments. Therefore if secession is optimal based on allocative efficiency gains, given the loss of mutual insurance possibilities, the redistribution aspect should then be settled by lump sum payments through time.

      The remainder of the paper is primarily devoted to explaining how these payments should be calculated. It is stressed that these redistributive transfers must be accounted for separately from net payments to the national budget that occur as a result of mutual insurance. Drèze argues that the proper method of accounting for redistributions requires “distributive neutrality”. In other words, the region should be completely indifferent with respect to redistributive payments if they secede or if they do not.

ECONOMIC GEOGRAPHY
Integration, Specialization and Adjustment

Paul Krugman (MIT & CEPR)
Anthony Venables (London School of Economics & CEPR)

      Traditional international trade theorists have tended to ignore agglomeration as a force in determining the pattern of specialization across countries. Agglomeration or increasing returns to scale can reinforce comparative advantage as a cause for specialization. The larger an industry is within one country, the lower is the average cost of production. This means that if an industry is located entirely within one country, more can be produced at a lower cost. Aggolmeration effects can also work against comparative advantage. In an environment where one country begins with a sufficiently large share of the world market, they will have very low average costs. It is possible that the country with the smaller market share could produce at a lower cost if they were serving the entire market. However, because they begin at a lower level of production, they are not able to compete. Thus initial conditions can make an important difference when agglomeration effects are important.

      In their paper, Krugman and Venables develop a model that shows the dynamic effects of lowering trade barriers in an environment where agglomeration effects are important. This environment is particularly interesting when thinking about the European Community because of the clear way in which trade barriers are now falling. In general industries with economies of scale will produce a different pattern of specialization than those without economies of scale as trade barriers fall.

      In their model there are two industries, with both initially located in each of two countries. Each industry produces a wide variety of differentiated consumption goods. The inputs to produce these consumption goods are labor plus an aggregate intermediate input, which is produced in the same industry. The aggregate intermediate input is also made up of a variety of differentiated inputs. This creates two vertically integrated monopolistically competitve markets where each industry produces both consumption goods and its own intermediate input. Trade barriers are modelled as a fixed cost to transporting either intermediate inputs or the consumption good. Finally the cost structure of both the consumption and intermediate goods is such that there is a fixed cost to production plus a constant marginal cost. This type of cost structure creates increasing returns to scale in each industry.

      The theoretical economy as described above is analytically very complicated. It incorporates agglomeration effects with both forward and backward linkages. The forward linkages come from the fixed costs associated with the production of consumption goods, while the backward linkages come from the fixed costs associated with the intermediate inputs. Due to this complexity, the authors have made many aspects of the model symmetric. In this way with two symmetric countries, and two symmetric industries and some of the technology parameters set equat across consumption goods as well as intermediate inputs 21 equations still remain to be solved simultaneously. The authors thus use numerical methods to explore the dynamics of the model.

      Through numerical simulation they find that with high barriers to trade each industry is equally divided between the two countries. When transport costs are very low the system is usually unstable. However, there is one stable path with low transport costs that leads to each industry being concetrated in one country. The former of these two extreme cases is labelled the “European” outcome, while the latter is labelled the “American” outcome.

      The authors go on to explore the dynamic paths when transportation costs are in an intermediate range. They find that when trade barriers are neither extremely high, nor extremely low, the outcomes depend highly on initial conditions. If initially the industries are quite equally divided between the two countries, then the “European” outcome will prevail. If however there are imbalances in the initial industry sizes in the two countries, then the “American” outcome will prevail. They also find that the “American” outcome is more likely the greater are the agglomeration effects built into the model through the production and cost parameters.

      The paper concludes with some explorations into the welfare effects of the dynamic transition from high to low trade barriers. They show that while the final outcome of lower trade barriers is necesarily higher incomes for all, the transition may be painful for workers in a declining industry in each country. As a given industry is moving out, the agglomeration effects are smaller and smaller. This leads to lower wages in that industry. It is assumed, quite realistically, that labor does not move instantaneously from one industry to the other, thus some workers are essentially stuck in a declining industry. The authors conclude that fact shows both the impetus for public sentiment against lower trade barriers as well as the place for public policy to ease the transition.

A general Interregional Equilibrium Model

Carlos M. Asilis (Georgetown University) and
Luis Rivera-Bátiz (Universitat Pompeu Fabra)

     The emergence of policy harmonization between countries in the European Community as well as the North American Free Trade Agreement blurs the difference between international and interregional trade. In the past international trade has been characterized by fixed national boundaries and factor endowments. However with the emergence of new international policies aimed at increasing factor mobility, factor endowments within a nation or region must be determined jointly with other economic variables.

      In their paper, Asilis and Rivera-Bátiz develop a model of interregional trade that specifically combines the questions of space or location with issues in international trade and growth. The model has an agricultural sector and a monopolistically competitive manufacturing sector. The possible locations where workers or firms may produce either the agricultural or manufactured good modelled as points along a line. Workers both live and produce at the same point. This line is to be thought of as representing the other factor of production, land. In agriculture land is used jointly with labor to produce goods. Each factor in agricultural production has decreasing returns to scale, while the technology as a whole has constant returns to scale. In manufacturing there is a constant labor content required for each unit produced, and land may be used as intensely as required without diminishing returns. This type of production technology is termed the “skyscraper” model of manufacturing. It can lead to all manufacturing taking place at a single point, or by analogy on a single plot of land. Agriculture by contrast, is then dispersed along the line.

      There are two other important differences between agriculture and manufacturing in the model. The first difference is that agricultural goods are said to have no transport cost. This means that their price will be the same at all points on the line. Manufacturing goods do have a positive transport cost, so those workers living and working far from the “skyscraper” will pay more for their manufactured goods. Finally, there is an externality associated with manufacturing. Manufacturing pollutes, while agriculture does not, therefore it is less desirable to live near the “skyscraper” than far away.

      These two differences between manufacturing and agriculture create the central tension in the model. While it is desirable to live far away from the “skyscraper” because it is less polluted, manufactured goods cost more due to transportation. Any equilibrium will therefore involve workers being dispersed along the line, with the utility from where they live plus the goods they are able to buy given prices equalized across all workers. The solution to the model leads to many possible equilibria. The authors concentrate with the equilibrium where all manufacturing takes place at one point on the line. Under some equilibria this point may be in the center, but this need not necessarily be the case. They solve for all of the equilibrium prices and wages as well as the distribution of workers and variety of goods. The difference in wages necessary to induce workers to live outside the center and work in agriculture may be either positive or negative. If the compensating differential is positive, then agriculture remains close to the center, as it becomes prohibitively expensive to attract workers further away. Symmetrically, if the differential is negative, then workers are quite willing to live in the periphery and a U shaped population density emerges. As transportation costs fall, or workers find pollution even less attractive, then the compensating differential will go from positive to negative, and the U-shaped distribution will emerge. The authors stress that the fact that wages are different at each plot of land, does not reflect utility differences. Rather, these differences in wages come about because people living and working outside the city derive utility from their place of residence. Thus policy that ignores the imputed value of lower pollution in the periphery may be misdirected.

      The authors conclude with a study of how technological change through innovation in manufacturing, improvement in agricultural technology and reductions in transportation costs will change the equilibrium. They alert us to the fact that different forms of technological change will have very different impacts on the economy in terms of the distribution of wages and employment. While at the same time all forms of technological change will lead to greater product variety and higher utility for all workers.

On Job Creation in Cities

Masahito Fujita (University of Pennsylvania),
Jacques Thisse (CERAS, École Nationale des Ponts et Chaussées, Paris & CEPR)
Yves Zenou (Université de Paris)

      Cities are often seen as centers that attract businesses and create jobs. It is widely thought that when a new firm comes to town, or an existing firm expands employment increases. However at the same time casual observation suggests that other firms in the area feel threatened by new entrants and expanding demand within their labor market. This fear stems from the possibility that the increased labor demand will be met by bidding up wages and taking workers from existing firms.

      This paper conducts a preliminary analysis of labor markets within the context of a standard urban model. It serves to combine important issues from both urban and labor economics to address the impact on the urban labor market of new firms. Three types of new entrants are considered. A nation-oriented firm, a city-oriented firm and a land developer are all considered. Each type of entrant provides different simplifying assumptions for the solution to the model.

      The nation oriented firm has a given quantity of output of their product, and the price is also fixed by the national demand. If accessibility to other firms is very important to their business, this type of firm will locate in the central business district. They find that such a firm is unlikely to choose a location outside the city center. The city oriented firm has demand for its product concentrated at the central business district, and must take transportation costs into account when it chooses a location. If the demand for their product is sufficiently large, they will locate at the central business district. On the other hand if the production process for their product is land intensive, then they are likely to locate outside the city center. The location decision of a land developer is more complex. The land developer is allowed to choose both a wage and a location to maximize profits plus the increased value of land due to their activities. It is a generalization of the first type of entrant in that the land developer both produces for a national market and gains from making the land within the city more valuable. The profits of the land developer are thus greater than that of the national firm for a given distance from the central business district. This type of firm finds it more profitable to locate somewhat further from the city center, which thus creates a dynamic process of attracting workers from outside the city.

      The central conclusion of the paper is that the specific location decision of each type of entrant has direct impact on the labor market outcome. The most general conclusion from all three types of entrants considered is that an entrant will create jobs when they locate far from an existing central business district. When they are far from the central business district they are able to exercise a degree of monopsony power over their potential workers, and are thus able to offer lower wages as well as create jobs.

Cities and Growth: Theory and Evidence from France and Japan

Jonathan Eaton (Boston University) and
Zvi Eckstein (Tel Aviv University, Boston University & CEPR)

      In a great part of the development economics literature there is an underlying assumption that the movement of the population from the country to the city is an inherent part of growth. On the other hand economists who have studied growth, from Adam Smith to the “new growth theorists” focus on the nation as the basic unit of account. Both theory and empirical work on growth has mainly studied national economies, perhaps because national data is more easily and consistently available. However this connection between the growth of cities and the development of an economy at a national level has always been important. In their paper, Eaton and Eckstein argue that the city may be a more appropriate unit of account when thinking about growth and development together especially after a country is said to have industrialized. They identify three possible patterns for urban growth and use population data from the cities of France and Japan to test which pattern most closely fits the data. The three hypothesized paths are labelled divergent growth, convergent growth and parallel growth. Under divergent growth, initially large cities increase in size relative to small cities. Conversely under convergent growth, small cities grow faster than large cities, thus all cities converge to the same “optimal size”. Under parallel growth, all cities grow in such a way that their size distribution remains constant over time. Eckstein and Eaton find that both for France from 1876 through 1990 and Japan from 1925 through 1985 neither the hypotheses of divergent growth nor convergent growth can be supported.

      The authors go on from this empirical finding to propose a model of parallel growth. They note that most theoretical models of growth based on decreasing returns to capital accumulation predict convergent growth, and those that are based on increasing returns to human capital predict divergent growth. In their model human capital is the engine of growth, but they are able to produce parallel growth. They note that while the model fits the data for cities in France and Japan, in the theory their notion of a city is a very much like the notion of a nation used in growth theory. The model is based on human capital as the engine for growth. Workers spend some of their time to acquire human capital instead of working. Human capital accumulation benefits the worker directly, by making their productivity and thus wages higher. Time spent acquiring human capital is modelled to be more productive in some cities than in others. These basic features of the model theoretically to parallel growth of cities, as found empirically above. They also lead to the predictions that cities where it is easier to acquire human capital will be bigger, with higher wages, higher land rents and higher levels of human capital per worker. All of these predictions are supported by correlation found in their data.

PATTERNS OF GROWTH
Barriers to Technology Adoption and Development

Stephen L. Parente (University of Minnesota & Federal Reserve Bank of Minneapolis)
Edward C. Prescott (Northeastern University & Federal Reserve Bank of Minneapolis)

      The standard neoclassical growth model cannot account for the wide disparity in per capita income across countries. Only if the share of reproducible capital is close to one, can a plausible disparity in tax rates generate as much income disparity as is found in the data. But then the convergence to the balanced growth path would necessarily be slow, far slower than is consistent with the post World-War II development experience of Japan. Development miracles such as Japan are unfeasible with the reproducible capital income share near one.

      In their paper, Parente and Prescott propose a theory of development which is quantitatively consistent both with the huge observed disparity in the wealth of nations and with the development experience of nations, including development miracles. The focus is on the technology adoption decision by firms and the barriers to such adoption that are often placed in the path of entrepreneurs. At a point in time the amount of investment required by a firm to go from one technology level to a higher level depends on two key factors: the level of general and scientific knowledge in the world and the size of the barriers to adoption in the firm’s country. World knowledge is assumed to be freely available and to grow exogenously. The size of the barriers differs across countries and time. The larger these barriers are, the greater is the investment required to adopt a more advanced technology. The theory is that differences in these barriers account for the great disparity in income across countries, and that large, persistent reductions in these barriers induce development miracles.

      The model is calibrated to the U.S. balanced growth observations and the postwar Japanese development miracle. For this calibrated structure they find that the disparity in technology adoption barriers needed to account for the huge observed income disparity across countries is not implausibly large.

      In emphasizing barriers to technology adoption and their relation to the process of development Parente and Prescott are able to account for different stylized facts. In particular, holding income levels and technology adoption barriers fixed, growth in world knowledge makes development rates increase over time. When only income levels are held fixed, development rates have indeed increased over the last 170 years. As they report, before 1913 the median number of years it took for a country to go from 10 to 20 percent of 1985 U.S. per capita income was 45. Subsequent to 1950, the median length of this development period was 18 years. Moreover, if the distribution of technology adoption barriers is constant over time, an implication of their theory is that the cross country distribution of the log of per capita income shifts up over time with no increase in its range. Parente and Prescott document that this is precisely how the ! distribution of per capita income in the 1960-85 period behaved for the 102 large countries in the 1991 Summers and Heston data set. Finally, by allowing relative technology adoption barriers in a country to change between subperiods, the authors explain development experiences of countries that have realized large postwar increases in income relative to that of the United States. Lucas emphasizes that a theory of economic development must be consistent with a development miracle occurring in South Korea, but not in the Philippines which appeared to be a very similar economy in 1960. Parente and Prescott’s theory is that the development miracle of South Korea is the result of reductions in technology adoption barriers in that country, and the absence of such a miracle in the Philippines is the result of a no reductions in technology adoption barriers there.

Aggregate and Regional Disaggregate Income Distribution Fluctuations

Danny Quah (London School of Economics & CEPR)

      Between 1982 and 1990 average US per capita nominal income rose by 48%. Over this period, experiences across different US states were not identical. In 1982, the beginning of the upturn, 20 states had per capital personal incomes above the US average. Over the upturn, one half of these saw their lead on the US average increase. Interestingly, over the same upturn, again one half of the 31 states initially below average saw their relative incomes fall even further. Should these facts be viewed to suggest that as aggregate output grows over the business cycle, those states already richer gain more from the improvement in aggregate activity? Or is it that richer states respond to disturbances that impact them first, and that those richer states then lead the nation out of recession?

      In his paper, Quah models income fluctuations across regional disaggregates as a nonstationary, dynamically evolving distribution. Doing so enables him to study the comovements of aggregate economic fluctuations with those embedded in an extensive cross-section of regional disaggregates. Such quantification allows, indirectly, to address the question of whether regional disturbances cause macroeconomic fluctuations that then propagate across regions, or whether regional disturbances are prior, and cumulative, so that they, rather than the usual candidates in aggregate technology, demand, or money, cause aggregate business cycle.

      The model is stylized to an extent where many interesting effects are neglected, but in return, it is explicit about the behavior of the entire cross-section. Aggregate and regional disaggregate empirical dynamics are analyzed within this simple theoretical framework. The focus is on the behavior of personal incomes across the US states. The evidence is mixed: disaggregate dynamics certainly bear interesting relations to each other, but only very particular characteristics of those are interestingly related to aggregate fluctuations. After only the one adjustment in removing a weighed cross-section average level, those characteristics in disaggregate dynamics that most relate to adjustment and mobility are simply orthogonal to aggregate fluctuations.

Measuring Institutions: Empirical Analysis of Property Rights and Economic Performance

Stephen Knack (IRIS, University of Maryland)

      Development economists have argued that “relative backwardness” confers substantial advantages in terms of the potential for growth. Also, diminishing returns to capital accumulation in the neoclassical model predict a reduction in the dispersion of per capita incomes across nations. Empirical evidence on convergence, however, is mixed. De Long and others have shown that cross-country convergence in per capita incomes is limited to samples of currently industrialized nations. In particular, income dispersion has failed to decline in groups of “ex ante rich” nations. Why is there so little convergence? Apparently, no samples other than ex post developed nations exhibit convergence of per capita income. Some theorists blame the inability of poor nations to successfully borrow advanced foreign technology on their low levels of human capital. Knack argues that human capital alone does not sufficiently capture the “social capability” required for convergence. Concluding that levels of human capital are the key to convergence club membership ignores troubling anomalies. For example, for slow-growing Argentina (0.6% income growth) and Uruguay (1.3%), secondary education enrollment in 1960 matched that of Singapore (6.7%), Italy (3.5%), and far exceeded those of Spain (3.7%), Portugal (4.3%), Korea (6.6%), Malaysia (4.0%), Thailand (4.5%), and Hong Kong (6.5%). Cross-country comparisons of estimates of average years of education for the labor force or population yield similar findings.

      In addition to human capital, then what other variables influence the ability of followers to catch up to the productivity leaders? “Institutions” are sometimes cited as a crucial factor determining the potential for catch-up growth; these resist easy quantification, however. Knack proposes institutional indicators not previously used in the empirical growth literature, obtained from two private international investment risk services: International Country Risk Guide (ICRG), based in New York, and Business Environmental Risk Intelligence (BERI), based in Washington. The ICRG measures (“Expropriation Risk”, “Rule of Law”, “Repudiation of Contracts by Government”, “Corruption in Government” and “Quality of the Bureaucracy”) are summed to create a composite index. The BERI index include the variables “Contract Enforcement”, “Infrastructure Quality”, “Nationalization Potential” and “Bureaucratic Delays”. The statistical results suggest that institutional quality is a superior predictor of the ability to take advantage of catch-up growth potential than initial income or human capital levels. Knack finds strong convergence in per capita incomes among nations with institutions such as secure property rights, investing and producing. Furthermore, incomes are shown to converge even among “ex ante rich” countries when measures of institutional quality are held constant. Additional evidence indicates “convergence club” membership is not limited to middle-income nations: even very backward nations have grown rapidly where property rights are protected. Most poor countries, however, have not established institutions necessary for attracting investment and advanced technology.

POLITICAL ECONOMY
Federal Fiscal Constitutions, Part Two: Risk Sharing and Income Redistribution

Torsten Persson (Institute of International Economic Studies, CEPR & NBER) and
Guido Tabellini (Università Bocconi, CEPR, NBER & IGIER)

      In virtually every country, the public sector transfers large resources across regions or localities. These interregional transfers are central in the current process of integration in Europe or Germany, as well as in the current process of disintegration in Belgium, Canada, Italy, or the former Soviet Union.

      In their paper, Persson and Tabellini study the political and economic determinants of regional public tranfers. The focus is on how interregional transfers are shaped by alternative fiscal constitutions. Many public programs of interregional redistribution also serve as efficiency enhancing role, namely they enable different regions to share macroeconomic risks. Obviously, with asymmetries between regions, the federal risk-sharing program may favor one region over the other. Separation of risk-sharing and redistribution is possible, provided that a rich enough menu of fiscal instrument is available and the federal policy is fully contingent on aggregate states of nature. Realistic restrictions usually constrain federal fiscal policy to be less than fully state contingent so that residents in the federation face a trade-off between risk-sharing and redistribution. The main contribution of the paper is precisely to clarify how this trade-off is resolved in political equilibrium under alternative fiscal constitutions.

      Persson and Tabellini consider first a scheme of simple non-state contingent transfers between regional governments. They prove that this kind of intergovernment transfer scheme exacerbates interregional conflict, in the sense that no coalition of voters forms across borders. Federation-wide voting is therefore a bad procedure for choosing intergovernment transfers. A more natural procedure is to let representatives of each region bargain over the policy. If autarky is the threat point, a political equilibrium under bargaining entails incomplete insurance, because this is optimal for the low-risk region which has more bargaining power. Then, they consider a centralized social insurance scheme at the level of the federal government. The political incentives are now very different. As a result under this voting program, interregional coalitions of voters form and voting is tilted in favor of the high-risk region, so that over-insurance, rather than under-insurance, characterizes the political equilibrium. Moreover, the program is larger the greater are the asymmetries across regions.

      To sum up, the paper points to an important difference between two alternative federal fiscal constitutions. How the conflicting interests of the regions are resolved depends critically on the mechanism for collective choice. The model predicts that federal social insurance schemes decided upon by voting will oversupply regional risk-sharing, whereas federal intergovernment transfer schemes decided upon by bargaining will undersupply it.

Uneven Technical Progress and Job Destructions

Daniel Cohen (Université de Paris I, École Normale Supérieure, CEPREMAP & CEPR)
Gilles Saint-Paul (DELTA, Paris & CEPR)

      Technical progress is often blamed by unions and politicians as having adverse effects on jobs. Certainly, at the macro-level, this is not so. Since the early 19th century, productivity has been multiplied by more than ten, and the workforce has not shrunk correspondingly. A tentative reconciliation of these micro-stories with macro-facts can be found in a recent model by Aghion and Howitt where technical progress destroys jobs because it makes old skills obsolete and forces former workers to get re-trained and shift places. However, this model does not fit the facts. Secretaries are not fired because they can’t use word-processors but because word-processors make them useless. But does that mean that wages should come down when technical progress comes in? Downward pressures exist indeed.

      Cohen and Saint-Paul’s answer to these puzzles is quite simple. In their model, technical progress comes in unevenly. Contrary to Aghion and Howitt, however they do not postulate that old workers can’t use the new technologies. Instead they assume that goods are complements for the final consumer. As a consequence, the sector which benefits from technical progress suffers a decline in price. In the end, the industry has to fire workers. Any uneven technical progress consequently leads to job destruction in the sector which benefits from it and job creation in the least productive sector.

      More precisely, the results that they get in terms of job destruction, wages and unemployment, can be summarized as follows. If technical progress is uneven and complementarities are prevalent, then technical progress leads to long-run job destruction in the sector where it applies. This job destruction may, however, be smoothed over the transition period as the low-productivity sector gradually absorbs excess labor from the high-productivity sector. This will prevail if the shocks and/or complementarities are not too strong. If they are too strong, then a mass of job destruction has to occur in the high-productivity sector. In the full employment case, a compensating mass of hirings occurs in the other sector but only until the limit of the full employment is reached. Concerning wages, Cohen and Saint-Paul establish that despite a drop in the relative price of the high-productivity sector, wages are increased by technical progress. This is because they are essentially driven by the price of the hiring sector. Wages overshoot their long-run level, then a gradual decline occurs as labor reallocation proceeds towards the least productive sector. Repeated asymmetric shocks, however, may lead to lower wages as the hiring sector expects to be hit by the next productivity shock.

      Finally, concerning unemployment, they obtain that if the shock is not too big, unemployment declines both in the long-run and over the transition period. It may also undershoot its long-run level. This is because labor reallocation is driven by excess labor demand in the low-productivity sector, while the high-productivity sector can afford to adjust gradually. If however the shock is large, then there will be a jump in unemployment at the time of the shock as the sector hit by productivity growth will massively shed labor, while the low-productivity sector can only absorb it gradually. As time passes, unemployment will eventually fall below its pre-shock level to reach a permanently lower level.

Distribution, Redistribution, and Capital Accumulation

Per Krusell (University of Pennsylvania)
José-Víctor Ríos (University of Pennsylvania)

      What is the role of the initial distribution of wealth in determining an economy’s capital accumulation path? Posed in the context of a standard neoclassical growth model where agents have identical, constant-relative-risk-aversion preferences and access to a complete set of asset markets, the answer is “None”.

      In their paper, Krusell and Ríos consider the same setup, but assume that a political mechanism allows agents to tax for redistributive reasons. Their main goal is to make a quantitative assessment of this model’s implications for how the wealth distribution affects the growth path.

      They adopt the one-sector growth model in its simplest form using a Cobb-Douglas aggregate production function in capital and labor effort. The population consists of infinitely-lived agents who are all identical except in their initial holdings of capital. Taxes have the form of a proportional income tax whose proceeds are rebated lump-sum. The policy determination process is one in which in each period there is a vote on the tax rate applied to current savings. The voter takes into account how the current policy affects the law of motion of the distribution of wealth and how it alters future policies, and their equilibrium has the property that the political preference of the median type coincides with the policy outcome. The model is calibrated to U.S. growth properties. Krusell and Ríos find that redistribution of initial capital has surprisingly large effects on subsequent capital accumulation. They look at several kinds of experiments and estimate that the percentage change in long-run output following an initial redistribution of 1% of the total initial capital stock range between 1.3 and 21.7%. For example, an initial redistribution away from the median voter will imply that the tax rate increases, and the economy starts on a path toward a new steady-state with higher taxes and lower total capital.

      An important finding is that the time horizon of the tax policy matters: a long horizon makes the taxes respond less to changes in the initial distribution of capital. The authors interpret this finding as informative about institutions: tax institutions where taxes are allowed to change frequently lead to higher taxes on average, and lower capital levels.

Public Education and the Evolution of Income Distribution

Raquel Fernández (Boston University & NBER)
Richard Rogerson (University of Minnesota & NBER)

      A distinctive feature of public education in the US is the significant role played by local property taxes in its financing and the resulting large disparity in expenditures per student observed across communities. A series of State Supreme Court rulings and public concern over the quality of public education have led many states to consider reforms in the financing of public education. Because education is an important determinant of individual income, reforms which alter total spending on education and/or its pattern across communities should have aggregate effects on income distribution, intergenerational income mobility and welfare.

      In their paper, Fernández and Rogerson construct a dynamic general equilibrium model of public education provision in a multi-community setting, calibrate it using US data, and use the calibrated model to evaluate the quantitative effects of several reforms. The population structure is that of a two period overlapping generations model in which there is a large number of households every period, each consisting of one old and one young member. Households choose in which community to reside. Each community has a local housing market and determines a tax rate on local housing expenditures by majority vote. The proceeds are used to provide public education for its residents. An old individual’s income is determined by the quality of education received when young and an idiosyncratic shock. The equilibrium for this model has the property that individuals stratify themselves into communities by income. An important policy the authors analyze is one in which financing of education is done at the national level. More precisely, they investigate the impact on quality of education, and of future earnings, of a switch from a system where education is financed with school districts’ property taxes, to a centralized system that grants equal amounts per student to each community, independently of its revenue from property taxation. They find that this policy leads to higher average income in the steady state, higher average spending on education, greater intergenerational income mobility, and higher welfare. The magnitude of the welfare improvement measured in terms of steady state GNP is almost 3%, which is a large gain relative to that found for many policies.

LABOUR MOBILITY
Diverging Patterns in a Two-country Model with Endogenous Labour Migration

Pietro Reichlin (Università di Napoli “Federico II”)
Aldo Rustichini (CORE, Université Catholique de Louvain)

      Traditional theoretical models of labor migration are based on the notion that cross country wage differentials spur migration. As labor moves from one country to another, wage differentials disappear. Labor becomes scarce relative to capital in the sending country, thus wages rise. Conversely labor becomes relatively more abundant in the receiving country, thus wages fall. In the steady state all economies should have the same equilibrium wage, and migration should not occur. The equalization of wages across two or more distinct economies is based on an aggregate production function that exhibits decreasing returns to scale in each factor, and constant returns to scale in capital and labor. In contrast, models where the production function has increasing returns to scale in human capital, labor mobility may have very different effects such as persistent wage or skill differentials and labor migration flow reversals.

      Reichlin and Rusticini study a model where there are increasing returns to human capital and labor is responds to wage differentials. In their model there is free trade between two countries, as well as perfect capital mobility. Labor, is however only partially mobile in that only a fraction the labor force is free to move from one country to the other in any given period. The fraction that is allowed to migrate depends on the degree of the wage differential. This first model implies that the country that begins with higher wages, will always receive workers. Because of the increasing returns, there will be a persistent and increasing wage gap, and there will be immigration into this country forever.

      The authors then go on to develop an overlapping generations model with heterogenous labor inputs. In this model there are both skilled and unskilled workers. While the production function has decreasing returns to scale in unskilled labor, there are increasing returns to skilled labo

Jacques Drèze (CORE & Université Catholique de Louvain) opened the conference with an inaugural lecture. He presented his paper on “Regions of Europe” where a new concept of regions, which do not have full statehood and belong not to any state but to the Community, is proposed. He discussed the various dimensions of its economic desirability , and investigating how assets and liabilities should be apportioned at the time of secession, he argued in favor of distributive neutrality.

      The first full day of the conference began with a session entitled “Economic Geography”. The first two papers focused on location decisions of firms and workers in environments where increasing returns produce an impetus for agglomeration. Anthony Venables'(London School of Economics & CEPR) presentation of work co-authored with Paul Krugman focused on a dynamic theoretical model of how trade costs and agglomeration effects work in opposite directions to produce several possible patterns of industrial location. The main results of the paper are that, as trade costs become lower, there is a tendency for different countries to specialize in different industries. He noted that the dynamic process to reach a stable equilibrium can potentially be very costly in terms of real wages to workers in a declining industry.

      In discussing the paper, Alasdair Smith (University of Sussex & CEPR) commented on the value of the simple approach used here. Smith pointed out that if in fact these trade patterns reflect specialization within an industry, then the intermediate cost to specialization may be lower than if particular countries were to lose entire industries. This discussion brought out the several themes which participants focused on throughout the conference. Smith, and others in the audience, expressed a desire to see the dynamics of labor mobility and the corresponding distributional and welfare effects fleshed out more clearly in a model of this type.

      Luis Rivera-Batiz (Universitat Pompeu Fabra) presented a model with well specified labor location decisions. Rivera-Batiz’s work was co-authored with Carlos M. Asilis and entitled “A General Interregional Equilibrium Model”. The general equilibrium nature of the model makes it possible to study labor and firm location decisions as well as product variety and land use in equilibrium. The presentation focused on one equilibrium where all industry is concentrated at one point, and agricultural production takes place at all points.

      Thomas Gehrig (University of Basel) was the discussant for the paper. He pointed out that the welfare implications of different equilibria might be quite different. In general the paper generated much discussion, including one comment by Ed Prescott inquiring about the potential for using this type of model for empirical analysis.

      Jacques Thisse (CERAS, Ecole Nationale des Ponts et Chaussèes & CEPR) presented his joint paper with Masahito Fujita and Yves Zenou “On Job Creation in Cities”, which focuses on labor and firm location within a city. The main conclusion of the paper is that new jobs are created when a firm locates in a part of the city where it may enjoy some monopsony power. In discussing the paper, Massimo Motta (Universitat Pompeu Fabra) noted that some of the model’s important conclusions rely on the assumption that firms in the city center do not respond to the new entrants into the labor market.

      The following paper by Jonathan Eaton (Boston University) and Zvi Eckstein (Tel Aviv University, Boston University & CEPR) was the first to directly address empirical issues. The first part of the paper entitled “Cities and Growth” empirically studies historical data from both France and Japan on growth of population centers, and concludes that the size distribution of these population centers has been relatively constant, and that the distribution and evolution of the distribution is very similar between countries. In the second part of the presentation, Eaton presented a theoretical model consistent with the above empirics as well as including the features that larger cities have higher human capital levels, rents and wages.

      David Canning (Queens University, Belfast) discussed the paper and pointed out that the use of a externality to human capital may be problematic in the formulation of the model. He also commented that the criterion for moving to a larger city based on higher lifetime utility may not fit the world we live it today, where labor, once mobile, may move several times. Ramon Marimon and Jacques Thisse both challenged the sample selection and techniques of the empirical section, while the authors replied that the historical nature of the study has made it very difficult to include other countries in the sample.

      Edward Prescott (Federal Reserve Bank of Minneapolis and University of Minnesota) opened the second session entitled “Patterns of Growth”. He presented his joint paper with Stephen Parente on “Barriers to Technology Adoption and Development”. Here, a theory of development which is quantitatively consistent both with the observed disparity in the wealth of nations and with the development experience of nations, is proposed. The focus is on the technology adoption decision by firms and the barriers that are often placed in the path of entrepreneurs. The model is calibrated to the U.S. balanced growth observations and the postwar Japanese development miracle. For this calibrated structure they find that the disparity in technology adoption barriers needed to account for the huge observed income disparity across countries is not implausibly large.

      In discussing the paper, Angel de la Fuente (Institut d’ Anàlisi Econòmica) agreed that technology adoption is crucial. He argued though that Prescott’s formal model need not be interpreted as one of technology adoption. He let the barrier parameter be a measure of the efficiency of investment and showed that, under this broader interpretation, a completely standard neoclassical model fits the data just as well. In addition, he pointed out that besides regulatory and legal constraints, bribes, violence, sabotage and strikes, also variables such as human capital, size and efficiency of R&D establishment as well as tax rates, might be included in the barrier parameter. But then the theory does not really account for a specific cause of dispersion. Ramon Marimon stressed the difficulty of measuring the barrier parameter. Daniel Cohen wondered whether the barrier parameter is correlated with data. In general, the main concern expressed by the audience was about the overly vague definition of the barrier parameter. Hugo Hopenhayn argued that, since changes in barriers are fairly permanent, experiences of countries changing position in the rank should exhibit some persistency. He wondered whether there are examples in reality which can be brought in support of this fact.

      In the next presentation, Danny Quah (London School of Economics & CEPR) focused on “Aggregate and Regional Disaggregate Income Distribution Fluctuations”. His paper analyzes the comovements of aggregate economic fluctuations with those embedded in an extensive cross-section of regional disaggregates. Such quantification allows, indirectly, to address the question of whether regional disturbances cause macroeconomic fluctuations that then propagate across regions, or whether regional disturbances are prior, and cumulative, so that they, rather than the usual candidates in aggregate technology, demand, or money, cause aggregate business cycle. The evidence he presented is mixed: aggregate fluctuations are interestingly related only to very particular characteristics of disaggregate dynamics.

      Albert Marcet (Universitat Pompeu Fabra & CEPR) discussed the paper. He noticed that part of Quah’s paper contribution is methodological: it provides techniques to study the aggregate dynamics of large cross section disaggregates. He wondered whether it is indeed appropriate, with a data set of approximately fifty regions and forty years, to figure out what the correlation among regions is. In his view, the techniques introduced by Quah could usefully and maybe more interestingly employed once the correlations of disturbances across regions has been parametrized in some reasonable way. Only after having done this, it is possible to get consistent estimates of the growth rate parameters in the autoregression equations of each region. Moreover, Marcet stressed the importance of accounting for experiences of countries, such as Spain, where some regions have always been poorer than others. The issue is not why regions perform differently over the cycle; rather it is to analyze whether convergence, though perhaps at a very slow rate, is indeed feasible. He emphasized the importance of random field models such as the one analyzed by Quah and how they may suggest that the “universal law of convergence” may be due to estimation bias. Quah answered the discussant that it was precisely to address such long-run dynamics and growth questions what motivated his criticism to existing models in the literature on this topic. According to Quah, dynamics across countries are very similar; across US regions the results by existing models are much more frantic.

      Stephen Knack (IRIS and University of Maryland) presented the last paper of this section. In “Measuring Institutions: Empirical Analysis of Property Rights and Economic Performance”, he proposes to look at “Institutions” as the crucial factor determining the potential for catch-up growth. The statistical results suggest that institutional quality is a superior predictor of the ability to take advantage of catch-up growth potential than initial income or human capital levels. Knack finds strong convergence in per capita incomes among nations with institutions such as secure property rights that are conducive to saving, investing and producing. Additional evidence indicates convergence is not limited to middle-income nations: even very backward nations have grown rapidly where property rights are protected.

      Giorgia Giovannetti (Trinity College, Cambridge University & Università di Cassino) was the discussant. She pointed out that the message of the paper – that is, “Institutions” matter – is not new. She reported that Douglas North referred to different institutional arrangements to explain the divergent path of Spain, and England in the sixteenth century: England with more secure property rights and the decline of mercantilistic restrictions encouraged the growth of innovative activity; in Spain repeated bancrupticies, confiscation, high level of bureaucracy and corruption were serious disincentives to growth. The main contribution of the paper is thus, in her view, to clarify how different institutional arrangements can be satisfactory accounted for in empirical analysis. She observed that the exercise performed in the paper is a standard cross-country regression; the data set employed is new and interesting. Nonetheless, she was critical of some aspects of both the model and the data. First, she argued that possibly large deterrence effects may be neglected if institutions and contract enforcement are not explicitly modeled. Moreover, she expressed some concern about the use of qualitative data, which are very likely to be affected by measurement errors. She also pointed out that, if contracts or institutions affect the rate of return, this should show up in the time-series behavior of a country. She therefore suggested that a time-series analysis could fruitfully supplement the cross-section. Knack’s answer addressed mainly to the measurement errors and the time-series issues. Regarding measurement errors, he argued that it would be possible to consider different data sets coming from independent sources, separate out the common component, get rid of the error component and use some sort of factor scale as a measure for institutions. However, the resulting sample size would necessarily be small. On the other hand, he stressed that the problem with time-series analysis is that, as data do not exhibit much variation over time, it is very difficult to find strong results. The crucial issue is the time it takes investment and growth to respond to changes in institutions. To Ramon Marimon’s suggestion to check for foreign direct investment Knack answered that, though it would be very informative, there are not good available data on that.

      The second day opened with a session which focused on “Political Economy”. Torsten Persson (Institute of International Economic Studies, CEPR & NBER) presented his joint paper with Guido Tabellini, “Federal Fiscal Constitutions, Part Two: Risk Sharing and Income Redistribution” . In this paper, Persson and Tabellini study the political and economic determinants of regional public transfers. Realistic restrictions on the policy instruments that provide interregional risk sharing introduce a trade-off between efficiency and redistribution. The main contribution of the paper is to precisely clarify how this trade-off is resolved in political equilibrium under alternative fiscal constitutions. The model predicts that federal social insurance schemes decided upon by voting will oversupply regional risk-sharing, whereas federal intergovernment transfer schemes decided upon by bargaining will undersupply it.

      In his discussion, Ramon Marimon (Universitat Pompeu Fabra, CEPR & NBER) noticed that the issue addressed in the paper is essentially one of designing insurance contracts. The questions that should be answered are therefore: 1) what kinds of contract are feasible; 2) what the goals are; 3) who the agents are; 4) what the decision mechanisms are. Efficient contracts theorists focus mainly on the first two questions. The political equilibrium literature deals mostly with questions (3) and (4). But institutional designers have to answer all questions jointly. He observed that Tabellini and Persson do not explicitly consider the private information, adverse selection problem, although it is present. In fact, they only consider pooling contracts. Furthermore he wondered on the reason why the authors just focused on a small set of contracts when others, also contingent, should be available to the policy-makers. His main objections to the model were then essentially two. First, the set of contracts the government is allowed to choose among is arbitrarily restricted. Secondly, the “pooling” contract on which voters agree upon is not efficient: he considered a simplified version of Tabellini and Persson model and showed a “separating” solution which was indeed a better choice for the median voter. Persson agreed that an arbitrary restriction on the possible kinds of schemes that the government is allowed to adopt is in fact present in the model. He stressed that, though the paper deals with positive issues, it obviously points towards the normative problem of institution design. It may thus be reasonable to conjecture that in reality not many schemes are available to the designer to choose among.

      In their presentation on “Uneven Technical Progress and Job Destruction”, Daniel Cohen (Université de Paris I, École Normale Supérieure, CEPREMAP & CEPR) and Gilles Saint-Paul (DELTA, Paris & CEPR) focused on a reconciliation of some micro-stories, which see technical progress as a source of job destruction, with the macro-observation that the workforce historically has not shrunk as much as productivity has increased. They assume technical progress comes in unevenly across sectors and goods are complement for the final consumer. Under this structure any uneven technical progress leads to job destruction in the sector which benefits from it and job creation in the least productive sector.

      Ramon Caminal (Institut d’ Anàlisi Econòmica) discussed the paper. He pointed out that the model does not explain why workers oppose technical progress. In the first two specifications of the model (the full-employment case with a once-and-for-all shock and the search-unemployment case) a positive innovation makes workers better off. In the full-employment case with repeated uneven shocks, the comparison across wages in economies with different speeds of technical progress is completely uninformative. In fact, for any given speed of technical change, workers would presumably care about the time profile of wages. In addition, he wondered whether reallocation of work between sectors such as manufacturing and services is indeed supported by empirical evidence. Cohen answered that if opposite and repeated shocks are expected, then incentive to reallocate is small. Wages may consequently go down and unemployment go up. Fernández supported this argument by noting that repeated shocks in the same direction are unlikely to occur. Eckstein objected that finite-lived workers would always associate lower welfare to technical progress. Thisse stressed that myopic politicians would look indeed at the transitory phase where workers are worse off.

      José-Víctor Ríos (University of Pennsylvania) presented a paper co-authored with Per Krusell, entitled “Distribution, Redistribution, and Capital Accumulation”. The aim of this study is to investigate the role of the initial distribution of wealth in determining an economy’s capital accumulation path, if a political mechanism allows agents to tax for redistributive reasons. The model is calibrated to U.S. growth properties. They find that redistribution of initial capital has large effects on subsequent capital accumulation. In addition, time period over which the current tax rate is voted matters: tax institutions where taxes are allowed to change frequently lead to higher taxes on average, and lower capital levels.

      Yannis Ioannides (Virginia Polytechnic Institute & State University, Blacksburg, VA) discussed the paper. He first objected that very few existing fiscal systems approximate the one assumed in the paper. He also expressed some concern for the fact that no taste for redistribution is explicitly accounted for in the model. He finally pointed out that unavailability of existence results makes hard to evaluate the numerical experiments reported by the authors. Hopenhayn observed that talking about “tiny” changes in the initial distribution is misleading since they have discontinuous effects on the wealth of the median voter. Quah wondered what motivated the authors to focus on taxation to explain how income and wealth disparities determine differences in growth rates.

      Concluding the second morning session, Raquel Fernández (Boston University & NBER) presented her joint work with Richard Rogerson on “Public Education and the Evolution of Income Distribution”. The issue at stake is the impact of a switch from a system where education is financed with school district property taxes to a centralized system that grants equal amounts per student to each community, independently of its revenue from property taxation on the quality of education, and the resulting future earnings. They conceive a dynamic general equilibrium model of public education provision in a multi-community setting and calibrate it using US data. They find that a pure system of national financing leads to higher average income in the steady state, higher average spending on education, greater intergenerational income mobility, and higher welfare.

      In her discussion, Teresa Garcia-Milá (Universitat Pompeu Fabra) objected that the paper aims to evaluate quantitatively the impact of a policy change using a model that abstracts from some issues that are crucial to the story of education and income distribution. First, she pointed out that the benchmark case where education is solely financed by property taxes is too extreme. Her second point was that the housing market should be modeled so that it reflects that poor people face lower bound type restrictions to access the housing market of rich areas. Finally she concluded that if peer and parental effects on the quality of education were considered, together with the modifications in the housing market, the model would very likely imply a much smaller impact of the policy reform than the one the authors found in their paper. Daniel Cohen pointed out that there is a possibility of Pareto-improving, related to the housing services. In answering the discussant, Fernández admitted that some of the simplifications adopted in the paper might alter quantitatively the conclusions. However, she stressed that the model need not to be interpreted just in terms of the calibration results.

      The afternoon session was on “Labour Mobility”. It began with the presentation by Pietro Reichlin (Università di Napoli “Federico II) of his joint paper with Aldo Rustichini entitled “Diverging Patterns in a Two-Country Model with endogenous Labor Migration”. Increasing returns to scale and imperfect labor mobility were used in a theoretical model to explain migration patterns and different growth paths. In some equilibria the model generates both inflows and outflows of labor from a given country. There was extensive discussion of the paper both by the appointed discussant, Jordi Gali (Columbia University, Universitat Pompeu Fabra, CEPR, & NBER), and also the audience. Jacques Thisse pointed out that the model presented may be thought of a special case some of his previous work. The discussion also returned to the question of how to model endogenous labor mobility that is neither ad hoc, nor completely instantaneous.

      In the following paper, co-authored with Alessandra Venturini, Riccardo Faini (Università degli Studi di Brescia & CEPR) presented a model where labor responds to differences in wages relative income levels and amenities in the foreign country to generate a potential migration flow, which is then constrained by policy. The authors test their model on internal and external migration data from Southern Europe. The data indicates that wage differentials alone cannot explain migration flows. As their model predicts, the level of income in the sending country is an important factor in determining migration flows. Based on these results, the authors conclude that the downward trend in migration from Southern to Northern Europe will continue.

      The discussion of this paper led by Iain Begg (University of Cambridge) focused on the importance of social policy in both sending and receiving countries as determinants of migration in Europe.

      The final paper of the conference, “Regional Labour Market Dynamics in Europe and Implication for EMU”, was presented by Antonio Fatàs (INSEAD, Paris). Fatàs and his co-author Jorg Decressin compare the labor market response to regional and national shocks in Europe versus the U.S. They find that employment shocks are less persistent in Europe, and conclude that this is because European countries are less specialized than individual states in the U.S. They find that the bulk of adjustment to employment shocks comes from changes in labor market participation, rather than labor mobility. The discussant, Juan Francisco Jimeno (FEDEA), suggested that small changes in their wage equation would produce drastically different simulation results.