Sectoral Diversification as Insurance against Economic Instability

This paper examines the extent to which sectoral diversification can act as an insurancemechanism against fluctuations in regional gross value added growth rates. I apply portfoliotheory to the growth-instability properties of German districts. Furthermore, Idefine a comprehensive diversification measure and use Stochastic Frontier Analysis inorder to estimate whether diversification allows regions to achieve more efficientgrowth-instability combinations, i.e., greater stability at given levels of economicgrowth. The results confirm that diversification does generate such effects. Spatialinteractions do also play a role: The effects are less pronounced for regions whoseeconomic performance is mainly driven by the surrounding regions.