Skills, Agglomeration, and Segmentation

Abstract

We investigate the role of skill heterogeneity in explaining location patterns induced by pecuniary externalities (Krugman [30]). In our setting, sellers with higher skills better perform in the marketplace, and their sales are larger. Selling to distant locations leads to lower sales because of both (pecuniary) transport costs and communication costs that reduce the perceived quality of goods. A symmetry-breaking result is obtained: symmetric configurations cannot be stable, and regional inequality is inevitable. The relatively more skilled choose to stay in the location with higher aggregate income and skill, while the relatively less skilled in the other. The model allows us to analyze the links between the extent of interregional inequality and the extent of interpersonal skill inequality.