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Coping with Inefficiencies in a New Economic Geography Model

  • Theresa Grafeneder-Weissteiner
  • Ingrid Kubin
  • Klaus Prettner
  • Alexia Prskawetz
  • Stefan Wrzaczek

This article introduces a social planner version of a model central to the New Economic Geography for explicitly answering whether the symmetric equilibrium outcome of the decentralized market economy is socially desirable. We find that savings incentives are too weak, resulting in an inefficiently low capital stock and therefore an inadequate number of product varieties. The optimal subsidy and taxation scheme to remedy these distortions resulting from the monopolistic competition structure is shown to be a sales subsidy financed by a lump-sum tax that results in marginal cost pricing. Interestingly, implementing this optimal policy might actually destroy the stability of the symmetric equilibrium and result in unintended agglomeration processes.

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Paper provided by Vienna Institute of Demography (VID) of the Austrian Academy of Sciences in Vienna in its series Working Papers with number 1204.

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Length: 26 pages
Date of creation: May 2012
Date of revision:
Handle: RePEc:vid:wpaper:1204
Contact details of provider: Web page: http://www.oeaw.ac.at/vid/

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  1. Gustav Feichtinger & Michael Kuhn & Alexia Prskawetz & Stefan Wrzaczek, 2011. "The reproductive value as part of the shadow price of population," Demographic Research, Max Planck Institute for Demographic Research, Rostock, Germany, vol. 24(28), pages 709-718, May.
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  11. Krugman, Paul & Venables, Anthony J., 1995. "Globalization and the Inequality of Nations," Working Paper Series 430, Research Institute of Industrial Economics.
  12. Benassy, Jean-Pascal, 1991. "Monopolistic competition," Handbook of Mathematical Economics, in: W. Hildenbrand & H. Sonnenschein (ed.), Handbook of Mathematical Economics, edition 1, volume 4, chapter 37, pages 1997-2045 Elsevier.
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  15. Michael Pflüger & Jens Südekum, 2004. "Integration, Agglomeration and Welfare," Working Papers of the Research Group Heterogenous Labor 04-24, Research Group Heterogeneous Labor, University of Konstanz/ZEW Mannheim.
  16. CHARLOT, Sylvie & GAIGNÉ, Carl & ROBERT-NICOUD, Frédéric & THISSE, Jacques, 2003. "Agglomeration and welfare : the core-periphery model in the light of Bentham, Kaldor, and Rawls," CORE Discussion Papers 2003039, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  17. Kranich, Jan, 2009. "Agglomeration, innovation and international research mobility," Economic Modelling, Elsevier, vol. 26(5), pages 817-830, September.
  18. Judd, Kenneth L, 1985. "On the Performance of Patents," Econometrica, Econometric Society, vol. 53(3), pages 567-85, May.
  19. Florin O. Bilbiie & Fabio Ghironi & Marc J. Melitz, 2008. "Monopoly Power and Endogenous Product Variety: Distortions and Remedies," NBER Working Papers 14383, National Bureau of Economic Research, Inc.
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