1 the case for regional policy(4)-1

Dr John Moffat
Richard Price Building, Room F49
Email: J.D.Moffat@swansea.ac.uk
Office Hours: Tuesday & Friday, 1:30-2:30pm

Section Outline
 The following topics will be covered in the next five
weeks:
1. The Case for Regional Policy
2. UK Regional Policy
3. EU Regional Policy
4. Devolution
5. Regional Funding
 The exam will be a two hour written examination
(worth 45% of the final course grade) on all the
material covered in semester 2
Topic 1: The Case for Regional Policy 2

Readings
 The main textbook for this section of the
course is:
 Armstrong, H. & Taylor, J.
(2000), Regional Economics and
Policy, 3rd ed. Oxford: Blackwell
 This week’s reading is:
 Armstrong & Taylor, chapter 8
3Topic 1: The Case for Regional Policy

Learning Outcomes
 Students should be able to answer the following
questions:
 What are the main justifications for the existence of a
regional policy?
 Should regional economic disparities be alleviated by a
market-based or an interventionist approach?

The Case for Regional Policy
 Regional policy aims to reduce disparities in living
standards across regions
 Arguments for a regional policy can be based on
considerations of:
 Equity
 Policy motivated by equity concerns aims to make the
distribution of income/wealth more equitable
 Efficiency
 Policy motivated by efficiency concerns attempts to make
some people better off without making anybody worse off

The Equity Case
 Substantial differences in living standards lead to
dissatisfaction and resentment
 This is most strongly felt by those whose living
standards are poor through no fault of their own
 A regional policy motivated purely by equity
considerations could make certain people worse off

The Efficiency Case
 To understand the efficiency case for regional policy, ask
the following question:
 How would somebody living in a wealthy region (such as a
London banker) benefit from, or at least not be harmed
by, government policy that seeks to create employment for
people in disadvantaged regions (such as the North East)?

The Efficiency Case
 Most obviously, reducing unemployment in
disadvantaged regions, without leading to a loss of
income/jobs elsewhere (i.e. displacement), will make
the whole nation better off
 Those who were unemployed will produce output and
will not have to be supported through transfer
payments such as unemployment benefits
 The social costs associated with unemployment
(discussed earlier in the course) will also be reduced

The Efficiency Case
 Congestion costs arise in regions that experience rapid
economic growth because of excess demand for
infrastructure and public services
 According to the Eddington Transport Study
(2006), reducing the travel time for all business travel
on the roads by 5% could generate around £2.5 billion
of cost savings
 Congestion can be relieved by shifting the demand for
infrastructure and public services away from congested
areas and towards under-performing regions where
infrastructure is used less intensively

The Efficiency Case
 Low unemployment regions experiencing fast growth
will tend to experience labour shortages
 The resultant wage inflation will be transmitted to
poorly performing parts of the country through
national wage-setting and inter-plant bargaining
within firms
 National inflation rates can therefore be reduced by
equalising unemployment rates across regions so that
labour shortages do not arise in fast growing areas

Policy Alternatives
 There are two main approaches to removing disparities
in economic performance:
 Market-based (neoclassical) approach
 generally favoured by those on the right
 Interventionist (spatial Keynesian) approach
 generally favoured by those on the left
 As will be seen in the next lecture, the interventionist
approach has been the dominant approach in recent
British history

Market-Based Approach
 Proponents of this approach argue that if markets
are allowed to operate efficiently, disparities in
wages and unemployment rates will be
automatically eliminated though:
 Wages falling in areas of high unemployment
and rising in areas of low unemployment
 Workers migrating from low wage to high wage
areas

 Assume a country with two
regions, North and South
 In the North, the wage is W1 and
there is unemployment of L2-L1
 This unemployment can be
removed by a fall in the wage to
WN
 But if there are regions (i.e. the
south) with a higher wage rate
than WN, this difference in
wages will induce migration
from the North to the South (see
next slide)
Source: Adapted from Clark (2010)
Wage
Employment
SN
1
DN
WN
LN
W1
L1
North
L2

Ss
2
W*
L*
Wage
Employment
Ss
1
Ds
WS
L2
South
Wage
Employment
SN
1
DN
WN
L1
SN
2
W*
L*
North
Source: Adapted from Clark (2010)

 But wage differentials may not arise in the first place if
wages do not respond to local labour market
conditions because of:
 Industry-wide collective wage agreements rather than
local wage bargaining
 Unemployment benefit and income support that is ‘too
high’ and too easy to access
 A minimum wage that is too high

 Even if there are significant wage differentials across
regions, there are barriers to the migration of labour
because:
 Workers may be unaware of opportunities to obtain higher
wages elsewhere
 Workers may not be able to afford to migrate because:
 House prices are too high in low-unemployment areas
 They currently live in subsidised housing
 Workers will lose some of their pension entitlements if they
leave their present employer
 Workers may be unwilling to incur the psychological costs of
leaving friends and family

 The solution is therefore to remove these
constraints on the free operation of the market:
 Increase wage flexibility by:
 Reducing benefits and making them harder to access
 Reducing union power and encouraging more local
wage bargaining
 Reducing the minimum wage
 To what extent can these policies be pursued in the
UK?

Net replacement ratio summary measure of
benefits entitlements, 2000-2010 (%)
Source: OECD (2013)
0
10
20
30
40
50
60
70
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
France Germany Japan Spain United Kingdom United States

Union density, 1960-2010 (%)
Source: OECD (2013)
0
10
20
30
40
50
60
70
80
90
1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010
Germany Italy Sweden United Kingdom United States

Minimum wage relative to average wages of
full-time workers, 2000-2011 (%)
Source: OECD (2013)
0
10
20
30
40
50
60
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
France Japan Netherlands Spain United Kingdom United States

 Even if large wage differentials exist, the costs of
migration may need to be cut by:
 Raising public sector rents to market levels
 Encourage ‘portable’ private pensions
 Increasing the affordability of accommodation in low
unemployment areas
 Making it easier to access information about
employment opportunities in other regions
 To what extent can these policies be pursued in the
UK?

Mean weekly rents net of
services, England, 2008-2009
Source: DCLG (2010)

Proportion of employees with
workplace pensions, 2011
Source: ONS (2012)
Defined benefit
schemes are
generally less
portable than
defined contribution
schemes and
therefore discourage
mobility

Average house prices, July-
September 2012
Source: BBC (2013)
£0
£50,000
£100,000
£150,000
£200,000
£250,000
£300,000
£350,000
£400,000
£450,000
£500,000
Greater
London
South East South West East Anglia West
Midlands
East
Midlands
Yorks &
Humber
North West Scotland Wales North Northern
Ireland

 Even if the government were able to encourage
migration from low to high wage regions, this may not
help in removing disparities in economic performance
 This is because those leaving low wage areas will tend
to be younger, higher skilled workers who will
contribute most to economic growth
 Furthermore, migration to high wage areas will create
extra demand for over-utilised social infrastructure

Interventionist Approach
 This approach, also known as the spatial Keynesian
approach, argues that direct state intervention is
required to remove disparities in regional economic
performance
 Such disparities are viewed as the consequence of:
 Structural weaknesses in the regional economy
 A lack of investment as capital drains from poor to rich
regions

 The solution is supply-side policies to:
 Encourage the migration of capital into high-
unemployment areas
 Encourage indigenous growth in high unemployment
areas
 Enhance competitiveness by regenerating high
unemployment areas through public investment in the
socio-economic infrastructure

 A serious criticism of the interventionist approach to
regional policy is that it creates ‘deadweight’ spending
where public money is spent on private sector projects
that would have gone ahead anyway
 One way around this is through providing
discretionary rather than automatic assistance (see
next lecture)
 But even when discretionary assistance is
provided, funding may still go towards projects that
are not successful (see next slide)

 The government
provided the DeLorean
car factory in Northern
Ireland with £80 million
to produce the DMC-12
(BBC, 2005)
 Production started in
1981 but fewer than
9,000 cars were
produced before the
factory’s closure in 1982
Source: Kevin Abato

Summary
 Regional policy can be justified on efficiency and
equity grounds
 The market-based approach to regional policy
attempts to remove distortions which prevent the
market from equalising unemployment and wage rates
across regions
 The interventionist approach is based on the
assumption that direct state intervention is required to
remove regional disparities in economic performance

Next topic:
UK REGIONAL
POLICY

1 the case for regional policy(4)-1

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