Does Geographical Agglomeration Foster Economic Growth? And Who Gains and Looses From It?

This Paper proposes a two-region model of endogenous growth, which is a natural combination of a core-periphery model a la Krugman and of a model of endogenous growth a la Grossman/Helpman/Romer. Specifically, we add to the core-periphery model an R&D sector that uses skilled labour to create new varieties for the modern sector, while forward-looking migration behaviour is introduced. The innovation activity in the R&D sector involves knowledge externalities among skilled workers. Our analysis suggests that the presence of such a sector reinforces the tendency toward agglomeration, and supports the idea that the additional growth spurred by agglomeration may lead to a Pareto-dominant outcome such that when the economy moves from dispersion to agglomeration, innovation follows a much faster pace. As a consequence, even those who stay put in the periphery are better off than under dispersion, provided that the growth effect triggered by the agglomeration is strong enough.