Trade Integration, Market Size and Industrialization: Evidence from China's National Trunk Highway System

Large scale transport infrastructure investments connect both large metropolitan centers of production as well as small peripheral regions. Are the resulting trade cost reductions a force for the diffusion of industrial and total economic activity to peripheral regions, or do they reinforce the concentration of production in space? This paper exploits China's National Trunk Highway System as a large scale natural experiment to contribute to our understanding of this question. The network was designed to connect provincial capitals and cities with an urban population above 500,000. As a side effect, a large number of small peripheral counties were connected to large metropolitan city regions. To address non-random route placements on the way between targeted city nodes, I propose an instrumental variable strategy based on the construction of least cost path spanning tree networks. The estimation results suggest that network connections led to a reduction in GDP growth among no n-targeted peripheral counties due to reduced industrial output growth. Additional estimation results present evidence that appears consistent with the existence of core-periphery effects of trade integration as found in increasing returns trade theory and economic geography