Friday, 16 August 2013

What is Economic Geography?

The Nile

 Land and Man

Certain types of landforms are beneficial to society in many ways. For example, how a river can  help the economy depends on its stage of development. A young river is usually not safe for transport or navigation but  has great potential for generating power. A well-situated dam or hydraulic power pipe can greatly help the economy of that region. Hydropower is used for irrigation and for the operation of various mechanical devices, such as watermills, sawmills, textile mills, dock cranes, domestic lifts, powerhouses and in paint making. 

Similarly, a mature river does not have the force to generate electricity without incurring heavy cost for such energy, but does have the speed to allow navigation and transport. It also enables agricultural activities by making the soil more fertile. This allows for trade and commerce that greatly expands market activities and incomes together. Without the river Nile, the Egyptian civilization could not have flourished. The Nile brought vegetation, transport and agriculture upon which the Egyptians built their civilization. The Indus Valley Civilization was founded on the banks of many rivers - Jhelum, Chenab, Ravi, Satluj and Beas. The Chinese Yellow River Valley Civilization (4000BC) also grew around the Huange He river, which enabled agriculture.
Development along the Yellow River
Temperature changes are also an important factor that influences economic activity. There is a vast amount of literature that claims that hot areas have lesser economic activity and development. A recent study claims that in the poor countries, about 1 degree rise in temperature on an average causes about 1.3% fall in economic activity. Temperature changes can also lower agricultural and industrial output and indirectly impact political stability. The latitude, altitude and the relative distance to water bodies and landforms determine the climate of an area. In turn, the climate of an area determines the population and demography.

Even in today’s world, the Indian economy is sometimes called the ‘Monsoon Economy’ since it depends heavily on the seasonal winds that blow from the Indian Ocean and the Arabian Sea that bring heavy rains. This heavy rain in June and September has huge effect on the agriculture of India. The impact is such that if the monsoon is delayed by over a week then the Indian GDP growth slows down. Every year the country hopes for timely monsoons and a favourable weather.

Indian kids pray for rain

The rock formation of the land is also has a major influence on the economic activity. Rocks are  broadly categorised  into igneous, metamorphic and sedimentary rocks. Each category has further divisions and sub-divisions, and only some forms of rocks have economic value. Soils that originate from sedimentary rocks are generally more fertile and in particular if the soil is derived from limestone. There is a saying, 'A limestone country is a rich country'. In today's times ownership of large oil reserves can help the country become prosperous (or bring civil war!) for instance Canada or Syria. 

To try and understand how distances have played a large part in our evolution, we can take a look at the industrial revolution. Prior to this revolution, the most advanced civilizations of the world were in Asia. But once the industrial revolution set in, the West took over in innovation and production. This was characterized by two prominent features:

First, the incredible rise in average productivity and the outstanding leap into more efficient methods of production. As newer methods of producing goods and services sprang up, the productivity of the western world increased forty times in just a hundred years. The Cotton Gin, Sewing Machine, Diesel Engine and the famous Assembly Line made it much easier for the industries to be set up. 

Second, the cost of transportation fell to almost a tenth of what it was. The invention of the steam engine and the aeroplane brought places and people much closer. The invention of the telegram made communication a thousand times faster than before. The area where goods were produced did not have to be close to people's homes anymore. Factories and industries came up further from the city where production multiplied rapidly. This tells us that transportation is extremely important for economic activity. 

Emergence of Cities

Urban Economics is the study of urban society. Economists use microeconomic tools to help understand crime, education, finance and other urban variables. Urban Economics attempts to incorporate distances and locations, into how cities develop. It began with Von Thunen and his work on how scarce resources are allocated as per locations in cities.


Imagine a circular city in a featureless plain. All employment is in a central business district (CBD), which we take to be a point at the city’s centre. All the workers live around the CBD and go to work every day. The further they live from the city, the costlier it will be to travel to work every day. However, the further they live from the city, the cheaper it is to get a place to stay. Each worker also purchases other goods and services that are important to them. In effect, the income the worker receives from the CBD is used in three ways,

·      Rent for housing services
·      Transport to the CBD and back
·      Purchase of other goods & services

This model claims that workers want to try and obtain as much housing services and other goods & services. And if the income obtained from the CBD is fixed, the worker must try and choose a home that is far enough to be cheap but at the same time close enough to the CBD to have low transport costs. The question that this model answers is ‘how far from the CBD does the worker choose to stay?

The model also proceeds to answering the following questions, does the worker’s choice of residence change if: -

1)    The housing rents per unit distance from the CBD         change?
2)    The income obtained from the CBD changes?
3)    If the costs of other goods and services change?
4)    If there are frequent traffic jams in the city?
5)    If the travel costs change?

This city goes on to become even more complicated and tries to provide an explanation as to why cities expand and come up in the first place. Monocentric city models gave way to Polycentric city models. Cities are very complex things and we still have a lot to understand about them. 

Hotelling's Beach

This theory tries to understand how firms set up shops. It was developed under Harold Hotelling and tries to understand how the market arises. Sellers try to position themselves as far away from other sellers and as close to the buyers. We can see interesting patterns and designs in the way sellers behave. The theory incorporates a lot of ideas from Game Theory since the sellers use competitive strategies to try and maximize profit. We take the help of a simple illustration to explain Spatial Competition.

Hotelling’s Beach: Imagine a beautiful day at a beach. One can observe many people sitting in the sand, just relaxing. It’s a hot day and everyone really wants to have an ice cream. But, since the sand is really hot, no one really wants to walk a lot. They'd all prefer if the ice cream seller comes near them.

Along comes an ice cream seller and since she is early, she is the only seller in the market. Once she gets here, she has a problem. Where will she set up shop? The answer is that she will set up shop right in the centre, where people have less discomfort in getting up and reaching for the ice cream. This is the place where she can maximise her profits. 

Now the interesting change occurs when another seller joins her. Now in order to maximize profits they must adjust their locations so that they reach out to as many people as they can, within the competitive environment. The best possible scenario is when they divide the market share equally and adjust their locations to cater to two groups of consumers.

The theory goes on to explain what happens in situation when there are more and more sellers in a larger region. This theory is very evident in real life, especially in India where small shops are in plenty. From the locations of panipuri stalls to paan shops, we observe spatial competition.

The Economic Space

In most contemporary economic thought, geographical distances have been largely ignored. Transport costs have not been given much weightage and most economic theories consider transport costs to be zero. When the classical economists studied the economy, they considered the distances between cities, countries and people themselves to be irreverent. This is quite clear when the famous economist David Riccardo constructed his theory of ‘comparative advantage’ by first assuming that there was perfect mobility within countries. In a perfectly mobile environment, factors of production like labor and capital can move freely without difficulty. Most of the economists like Smith and Riccardo grew up in the British Empire. And since Britain had already established trade routes all over the world, they and their followers tended to ignore transport costs over the sea. Hence, most classical economic theories consider the world to be “upon the tip of a needle” as they all do not pay attention to space. Only a handful of mainstream economic theories such as Hotelling's Competition and Urban Economics, take the entire distances into consideration. 

The only spaces that economists regarded well were the national borders. Apart from this minor division of the world, economic theories did not look at the differences in landscape and terrain. And as once Samuelson said,

‘Spatial problems have been so neglected in economic theory that the field is of interest for its own sake.’

The concept of the economic space is needed because the prices of goods and services, the incentives of people and the decisions of firms depend on distances. As Debreu once said,
‘A good at a certain location and the same good at another location are different economic objects, and the specification of the location at which it will be available is essential.’
A good economic theory must always consider the economic space.


Although Economic Geography is still very young compared to Macroeconomics or other mainstream economic theories, it has provided us with very valuable insights. These insights come from a study of the economic space in a  scientific manner. 

traffic jam

  • Transportation Costs play a major role even in today's fast moving world. Globalisation has brought in a feeling that the world has become flat, but the truth is different. Physically, culturally and economically the world is still round. Distances and locations play a very important role in the modern economy.
  • Factor Mobility or how easily labor and capital are moved to a desired location, is very important for the economy. Not only international mobility, but also national mobility matters. Economic Geography tells us that there is a growing divide between some people and others. This disparity of national mobility could pose a problem.
  • International Trade is good for everyone. Economic Geography helps confirm the belief that trade beyond barriers is good for both parties. It helps enhance the diversity and variety of goods and services available to us. 

Geography is one of the most interesting subjects I ever encountered. I loved to study about glaciers, rock faces, erosion, deserts and vegetation. From the formation of stalactites and stalagmites to the corrosion caused by waves, the subject manages to capture one’s attention. It’s a very beautiful subject that made me imagine a lot. Economics on the other hand, focuses more on the human species. It studies the effects of consumption and saving. It tries to understand the meaning of money. And even though it may seem a bit drab, it has its elusive beauty.

It is a pleasure to incorporate the beauty of the earth and the complexity of human beings and study Economic Geography. This field has gained traction over the last few decades. The importance of transport costs and increasing returns has begun to invade modern economic thought in an entirely new way. We cannot hope to understand economic activity without understanding the economic space it exists in. It is a necessity to incorporate the geographical conditions when we want to apply economic models to real life, since real life has real differences in landscape.  There is much more to be done in this field and a lot to break through.

Economics is for everyone!
Geography is for everyone!