Market-size and employment: Separating scale and diversity effects

Abstract

What drives the relation between market-size and employment? There is a relationship between the size of an agglomeration and its diversity; in terms of number of sectors present and in terms of number of firms within each sector. There is also a relationship between the size of different agglomerations and the average size of firms located in them. Total employment in a region may be expressed as the product of number of sectors, number of firms in each sector and average firm size in each sector. In the literature it is emphasized that diversity may be important for aggregate productivity and growth. The scale of operations in individual firms may also be important for productivity. Thus, the productivity in a region depends on both external and internal economies of scale. Looking at the relationship between regional size and employment it is possible to reveal the relative importance of each of the three factors. The applied technique allows us to untangle the overall elasticity of employment with respect to market-size and estimate the contribution of each component to the overall elasticity. Using data on Swedish regions over the time period 1990–2004 we show that there are marked differences between manufacturing and service sectors in terms of the contribution of the different components to the overall elasticity. The contribution of the respective component is also different for regional and extra-regional market-size.