The Effects of Agglomeration on Economic Activity: The Empirical Evidence on Mechanisms and Magnitudes

There is a rapidly developing empirical literature on the effects of agglomeration on economic activity. This paper surveys recent studies that provide econometric estimates of effects. Doubling economic density increases labour productivity by three or more per cent. Beneath this general picture, however, effects vary widely in a way that defies easy generalisation. A variety of factors are involved in producing effects, with labour market specialisation featuring as important in a number of studies. There appears to be an important positive interaction between human capital and agglomeration effects. However, the empirical literature surveyed does not shed much light on the precise nature of the mechanisms involved. Effects of own industry scale are substantial in some cases. But a majority of three or four-digit industries are not significantly agglomerated, and even fewer demonstrate significant positive agglomeration effects of own industry scale. On the basis of this literature, New Zealand policy makers aiming to raise productivity should include a focus on the conditions that would allow its largest city to successfully grow in size. They should avoid attempts to select particular industries to increase their national scale in the hope of reaping agglomeration economies.