Many places are lagging behind and others are confronting large economic transformations or shocks. These can have high social and economic costs. Limitations in labour and firm mobility mean places can become trapped, creating a role for policy. Insufficiency of ‘spatially-blind’ policies and limitations in local institutions can mean that place-based policies are required. The economic rationale of place-based policies is linked to their potential to overcome a spatial mismatch between firms and workers and help mobilise ‘underutilised potential’ in a place. It is also linked to their ability to help upgrade local public goods and address asymmetric trends and shocks. Assessing the impact of place‑based policies is complex, but empirical evidence suggests that place-based policies can have positive outcomes if policy makers focus on effective policy design and implementation.
Place‑Based Policies for the Future
Abstract
Spatially-targeted policies have long been used to address economic, social and environmental challenges facing particular places.1 Place-based policies have long been part of government policymaking—even if they were not known by this term at the time. During the industrial revolution, these included policies to tackle spatially-concentrated poverty and support the industrialisation of towns and hinterlands of countries. They also included spatially-targeted investments to upgrade infrastructure and establish higher-education facilities (e.g., land grant colleges in the United States). In the post-World War II period, place-based policies supported large-scale upgrading of public goods across underperforming areas within countries, as illustrated by the Tennessee Valley Authority and the New Deal in the United States. More recently, place-based policies have evolved into a wide‑ranging set of policies to upgrade economic and social structures in lagging places and places at risk from transitions.
The concept of ‘place-based policies’ is linked to debates in economics literature. Discussion relating to ‘place-based policies’ spans literature covering regional and territorial development policies, Keynesian economics, endogenous growth theory and economic geography. The first reference to the specific term emerged in the 1960s in the United States, as a criticism that these policies were overtly political and potentially welfare-reducing (Winnick, 1966[1]). It was argued that directly targeting people who need support would be more efficient than targeting support to places. Debates linked to this ‘place‑based’ versus ‘people-based’ dichotomy have continued, despite inherent contradictions (Box 2.1). In recent years, this dichotomous debate has subsided and a new focus on “people-in-places” has been proposed (McCann, 2023[2]). Indeed, recent economic literature increasingly acknowledges that place‑based policies have a role in government policymaking and instead focus on the conditions and elements of effective place-based policies (see, for example, (Austin, Glaeser and Summers, 2018[3]; Bartik, 2020[4]; Venables, 2023[5]; Kline and Moretti, 2014[6]; Neumark and Simpson, 2015[7])).
The first explicit reference to the term ‘place-based policies’ emerged during the 1960s in the United States where Louis Winnick criticised these policies as being overtly political and potentially welfare-reducing (Winnick, 1966[1]). Winnick was focused on the risk of ‘pork barrel’ politics, where spatially-targeted spending was being primarily used to gain political support (McCann, 2023[2]). Winnick and other critics suggested that policies could be more efficient if they targeted people who need the most support and sought to reinforce growth in productive and growing places (Winnick, 1966[1]; McCann, 2023[2]). Winnick created a dichotomy of ‘place prosperity versus people prosperity’, suggesting a conflict between goals to improve welfare of people in general and improve welfare of people in a place.
This ‘place-based versus people-based’ debate then lay dormant during an era of significant social spending growth before being revived in the 1980’s and 1990’s as economic growth was curtailed and existing place-based policies were scrapped or rolled back (McCann, 2023[2]). In the 1970s in the United States, a Commission for a National Economic Agenda was established that released several reports arguing that ‘people prosperity’ and ‘place prosperity’ were largely conflicting goals. This work was used as a basis for rolling-back federal economic and community development programmes that had provided federal support to state and local institutions in the 1980s.
By the late 2000’s the debate reemerged with arguments emphasising the deregulation of land use and housing in cities and their hinterlands to facilitate greater labour and capital mobility (World Bank, 2009[8]; Gill, 2010[9]; Glaeser and Gottlieb, 2009[10]). It was argued that place-based policies could only be justified on equity grounds or to supplement a lack of private investment in less dynamic places with public investments. At the same time, contrasting views started to emerge (Barca, 2009[11]; OECD, 2009[12]) that highlighted regional economic growth patterns and that trajectories were far more varied and nuanced than the stylised regional convergence models.
The debate between ‘place-based’ and ‘people-based’ policies is now increasingly seen as artificial. As McCann (2023[2]) argues, even if it is conceptually convenient to organise policies in a people-versus-place framing, this is hardly ever a reality in real-life policy settings. Policies framed as people-based, such as those that encourage migrating to opportunity, are entirely dependent on place-sensitive factors such as social capital and the quality of local public goods (McCann, 2023[2]). Policies to create prosperity require harnessing relationships between local economic actors, as well as their spatial resources, which markets alone cannot intermediate. Overcoming this dichotomous debate calls for a “people-in-places” framing (McCann, 2023[2]).
Source: McCann (2023[2]), How have place-based policies evolved to date and what are they for now?, Background paper for the OECD-EC High-Level Expert Workshop Series on “Place-Based Policies for the Future”, Workshop 1, 14 April 2023, https://www.oecd.org/regional/how-have-place-based-policies-evolved-to-date-and-what-are-they-for-now.pdf
Building on recent literature, this chapter outlines a case for place-based policies. While other arguments in favour of place‑based policies are possible and pertinent—some of which are covered in other chapters in this report—this chapter focuses on economic rationales in the context of inefficiencies in the spatial equilibrium and local market failures. The chapter is structured around five main arguments:
1. Many places are underperforming in economic and well-being outcomes with high economic and social costs, which suggests that a ‘business as usual’ approach is inadequate.
2. Persistent underperformance may be linked to inefficiencies in the ‘spatial equilibrium’ and a spatial mismatch between workers and firms, creating role for government policy.
3. ‘Spatially-blind’ policy approaches and local institutions can be insufficient to address inefficiencies and local market failures on their own, meaning place-based policies are often needed.
4. Multiple economic rationales for place-based policies exist linked to market failures in the spatial equilibrium, including to reduce the spatial mismatch, support local public good provision and address asymmetric shocks and transitions.
5. Although empirical evidence is sometimes limited due to their complexity to evaluate, these policies can have a positive impact where they are effectively designed and implemented.
Entrenched or emerging economic and social challenges come with high costs for places. Across the OECD, many places are lagging behind with low economic growth and high social disadvantage. Other places face risks from transitions and shocks that are undermining their economic and social structures. Persistent long-term underperformance and risks from transitions and shocks can create high economic and social costs. A ‘business as usual’ approach will be inadequate to address these challenges.
Many places are lagging behind
Across OECD countries, there are persistent spatial disparities in development trajectories between places within countries. Over recent decades, many places continue to have persistently low levels of GDP per capita. Indeed, around 70% of OECD regions who were in the lowest 25% of GDP per capita in 2000 still remain in this group in 20202. Productivity gaps across regions within countries are also significant and can persist over time and be larger than productivity gaps between countries (OECD, 2023[13]). Between 2005 and 2022, 15 out of 36 countries with regional data had at least one region with negative productivity growth (Figure 2.1).
Note: Gross value added per employed at place of work except USA (GDP per employee). TL2 regions, except EST, LVA and LTU (TL3 regions). Annual average for 2005-2022, except CHE (2011-2021), CHL (2013-2022), GBR and NZL (2005-2021), NOR (2008-2021) and TUR (2006-2022).
Source: OECD Regional Database
Partly because of productivity differences, some places are pulling ahead while other places are falling behind. Leading places continue to be centres for innovation, productivity growth and improvements in well-being. The density of firm births per capita, for instance, is two to three times higher in capital regions as compared to the least dynamic places in OECD countries (Tsvetkova et al., 2020[14]). At the same time, many places are being left behind. Today, 70% of the OECD population live in a country experiencing regional divergence from the national average in economic performance (when comparing small TL3 regions) (OECD, 2023[13]). Much of the divergence is linked to the success of metropolitan regions, where productivity growth has remained higher than non-metropolitan regions since the end of the 2008 financial crisis (OECD, 2023[13]).
Places lagging in economic and social performance are not necessarily the least developed. Former industrial regions often face low or stagnant growth compared to their national and international peers as they seek to adjust their economic structures to new global economic conditions (Diemer et al., 2022[15]). Across the European Union, for example, many less developed regions have converged while transition regions3 have struggled to maintain GDP per capita, productivity and employment growth. About a third of EU regions have yet to see a return to levels of GDP per capita from before the 2008 financial crisis (European Commission, 2024[16]). Similarly, many former manufacturing and industrial regions in the United States face long-term economic and social underperformance (Austin, Glaeser and Summers, 2018[3]).
Large scale transformations and shocks can undermine local economic and social structures
Major transformations and shocks do not impact places in the same way. Many global challenges—climate change, demographic change, technological evolution and changes in global trade patterns—have uneven spatial impacts (OECD, 2023[13]; OECD, 2022[17]). Climate change mitigation, for example, demands profound transformations in emission-intensive activities that produce basic materials, which tend to be spatially concentrated (OECD, 2021[18]). These activities often underpin manufacturing value chains, such as basic chemicals or steel, which are economically important for many countries. Similarly, demographic change patterns are also more strongly impacting some places, particularly small- and mid-sized cities and remote regions (OECD, 2023[13]). Economic and social shocks, such as the COVID‑19 crisis, can also have important heterogeneous impacts (OECD, 2021[19]).
The asymmetric impacts of major transformations and shocks can have long-term scarring effects on local economic and social structures. As the impacts of a particular trend or shock are felt, and if they are not managed proactively, existing industries can be undermined, and future economic prospects can be eroded. Where an industry is undermined, firms or skilled people may choose to leave or not invest in themselves or a place, creating a cascading effect leading to long-term economic scarring. These changes can persist and have high costs on local human capital (Amior and Manning, 2018[20]). Examples of long-term scarring can be seen following de-industrialisation in the United Kingdom and in the persistence of the ‘China shock’ in the United States (Box 2.2).
Long-term consequences of de-industrialisation on places in the United Kingdom
Following negative shocks during the 1970s linked to de-industrialisation in the United Kingdom, the male employment rate across worst affected places fell by around 10 percentage points. By 2011, only a small fraction of this loss in employment rate (1/10th) had been recovered (Rice and Venables, 2021[21]). The negative shock had a strong impact on measures of deprivation. Although places that were affected did not have higher average levels of deprivation in the 1970s, by 2015 around two-thirds of the most deprived areas in the UK were places adversely affected by these shocks (Rice and Venables, 2021[21]).
Persistent impact of the ‘China shock’ on places in the United States
Rising import competition between 1990 and 2007 had a long-term impact on local labour markets in the United States. The trade shock left some places with higher unemployment, lower labour force participation and reduced wages, particularly for local labour markets that had a strong presence of import competing manufacturing industries (Autor, Dorn and Hanson, 2013[22]). The loss of employment in these places has been linked to higher payments for unemployment, disability, retirement and healthcare (Autor, Dorn and Hanson, 2013[22]). Effects have been persistent and have led to long-lasting scarring and social problems (Autor, Dorn and Hanson, 2021[23]).
Source: Rice and Venables (2021[21]), The persistent consequences of adverse shocks: how the 1970s shaped UK regional inequality, https://doi.org/10.1093/oxrep/graa057; Autor, Dorn and Hanson (2021[23]), On the persistence of the China Shock, https://doi.org/10.3386/w29401
Given the long-term costs of some asymmetric transformations and shocks, a forward-looking approach may be needed to target currently productive regions that face strong headwinds. Avoiding long‑term economic scarring may require acting proactively to support workers and businesses to transition into new industries, particularly in response to the green transition (Suedekum, 2023[24]). This could help to reduce long-term costs that would arise from an unmanaged transition. Indeed, many governments are adopting more forward-looking approaches to identify and proactively address future risks, as is the case for coal and automotive regions in Germany (Suedekum, 2023[24]). In the case of reaching climate neutrality by 2050, for example, a forward‑looking approach would support investments in mitigation and adaptation to substantially reduce long-term economic costs (OECD, 2021[18]).
High social and economic costs
The persistent under-performance of places can come with high long-term costs. While some level of regional inequalities is inherent and unavoidable in market economies, the longstanding geography of inequalities is becoming deeply entrenched and its costs are increasingly difficult to ignore (OECD, 2023[13]). This geography of inequality can limit access to economic and social opportunities, and risks reducing long-term levels of development. This can create a range of social, economic, fiscal, political and environmental costs:
Social costs: Long-term unemployment in a community can result in inter-generational scarring (Bartik, 2020[4]). Areas of deprivation can develop where people have lower expectations, aspirations and opportunities, which can create significant pockets with lower well-being outcomes. Furthermore, subnational governments in under-performing places may face important fiscal constraints that limit their ability to continue delivering quality public services needed to maintain social outcomes for residents (OECD, 2022[25]).
Economic costs: Economic under-performance of lagging places can place a drag on the national economy and represent ‘underutilised potential’ in the economy, as in the case of places with high unemployment (OECD, 2009[26]; Barca, 2009[11]). Furthermore, while a few ‘core’ regions often contribute a large share of economic activity, regions with a GDP per capita lower than the national average also make an important contribution to national growth—and have contributed more than half of overall national growth in some instances (OECD, 2009[12]). Addressing market failures and institutional barriers to make full use of the ‘underutilised potential’ of these places can make an important contribution to national growth.
Fiscal costs: Under-performing places can be recipients of significant fiscal transfers, including through social payments and equalisation mechanisms. Improving the performance of these places can increase subnational governments ‘own-source’ revenue and reduce their dependence on transfers, especially in decentralised countries (Henkel, Seidel and Suedekum, 2021[27]). Reducing persistent high levels of unemployment can also limit the associated fiscal costs of unemployment benefits and other negative externalities (Austin, Glaeser and Summers, 2018[3]; Bartik, 2020[4]).
Political costs: A ‘geography of discontent’ can exist that may undermine trust in government, social cohesion and democracy (MacKinnon et al., 2021[28]; Rodríguez-Pose, 2018[29]; McCann, 2019[30]). This is highlighted by the difference in levels of trust in government, which can be as high as 30 percentage points between a country’s highest and lowest scoring region (OECD, 2023[13]). Pockets of ‘green discontent’ can also emerge as a backlash to the impact of green transition on the most affected places (Rodríguez-Pose and Bartalucci, 2023[31]).
Environmental costs: Under-performing places may have less capacity to address important global and local environmental challenges. For example, lower fiscal and human capacity may undermine the delivery of public ecosystem services, such as clean water and flood protections. Low levels of innovation and technology uptake can lock firms and households into environmentally damaging production and consumption systems. Both can also undermine future sustainable development prospects.
Building the economic rationale for place-based policies requires first “identifying and understanding the fundamental economic reasons for spatial disparities” (Venables, 2023[5]). This, in turn, requires understanding ‘spatial equilibrium’ models in economic geography and potential inefficiencies in these models that create a role for government policy.
Inequalities in the spatial equilibrium
Geography matters for economic development (Krugman, 1991[32]). Geographic concentration of economic activities occurs due to the benefits associated with “agglomeration economies”. Agglomeration is widely acknowledged to be a long-term driver of growth and innovation processes, leading to increases in worker productivity and welfare (Combes et al., 2012[33]; Storper, 2023[34]). People want to live where firms are concentrated to access job opportunities and amenities, and firms want to locate in agglomerations as they will benefit from a thick labour market, and more suppliers and buyers (OECD, 2009[12]). New economic geography theories explain why and how agglomerations become increasingly attractive for firms and workers (Box 2.3).
New economic geography (NEG) theories analyse the circular or cumulative causation that drives increasing concentration of economic activities. They explain why consumers and firms tend to agglomerate together in specific geographic areas. NEG formalises cumulative causation mechanisms into a mathematical analytical framework (Krugman, 1991[32]).
Agglomeration economies occur when firms enjoy increasing returns to scale in a particular place, either because of the presence of natural advantages (i.e. natural resources, location etc.), monopolistic protection, political reasons (e.g. the decision to create a capital city) or any other reason. The presence of increasing returns to scale induces other firms to locate there, as well as people in search of higher wages, job opportunities and culture.
There are a number of inter-connected mechanisms that work to produce agglomeration economies:
Sharing of indivisible facilities such as local public goods or facilities particular to a place, that serve several individuals or firms. Some examples are laboratories, universities and other large facilities that cannot belong to one agent but where some exclusion is implicit in their provision.
Gains from a wider variety of input suppliers that can be sustained by a larger final-goods industry, that is, the presence of spillovers along with forward and backward linkages that allows firms to purchase intermediate inputs at lower cost.
Gains from narrower specialisation that can be sustained with higher production levels. Several firms specialise in producing complementary products, reducing overall production costs.
Reduction of risk from market shocks as firms adjust to changes in demand given access to a deep and broad labour market that allows them to expand or contract their demand for labour.
Matching mechanisms by which agglomeration improves the expected quality of matches between firms and workers, so both are better able to find a better match for their needs. Similarly, an increase in the number of agents in the labour market improves the probability of matching.
Learning mechanisms based on the generation, diffusion, and accumulation of knowledge—these refer not only to learning about technologies, but also how to acquire the skills.
Benefits of agglomeration are not unlimited. A counterforce to agglomeration exists due to the existence of congestion diseconomies. Among other factors, these can arise as infrastructure becomes more congested, pollution increases, and housing becomes more expensive.
Source: OECD (2009[12]), Regions Matter: Economic Recovery, Innovation and Sustainable Growth, https://doi.org/10.1787/9789264076525-en; and various sources including Krugman, P. (1991[32]), “Increasing Returns and Economic Geography”, The Journal of Political Economy, Vol. 99, No.3, pp. 483-99, https://doi.org/10.1086/261763
Spatial inequality is inherent in a spatial equilibrium. High levels of urbanisation due to agglomeration processes have gone hand-in-hand with economic development (OECD/European Commission, 2020[35]). While agglomeration forces drive productive growth in agglomerations, they are also linked to spatial inequalities. While a level of spatial inequality is necessary for economic development, an efficient level of inequality in an economy is unclear. The spatial equilibrium can be inefficient due to failures of automatic adjustment mechanisms that create a spatial mismatch between workers and firms.
Failures in market-based adjustment mechanisms
In a simple economic view, the spatial equilibrium is efficient and self-corrects following an economic shock thanks to market forces. In accordance with simple spatial equilibrium models, changes in relative wages and asset prices are assumed to lead to firm and labour mobility, resulting in convergence between places (Rosen, 1979[36]; Roback, 1982[37]). A negative shock, for example, should lower relative wages and prices, triggering outward migration of people and inward migration of firms. If there were perfect mobility, there may be limited need for place-based policies as ‘automatic adjustment mechanisms’ might be enough to bring about convergence (Duranton and Venables, 2019[38]).
In practice, automatic adjustment mechanisms are imperfect. As illustrated in the previous section, large gaps in the economic performance and well-being of places can persist between places, indicating that places may not automatically converge as anticipated by simple spatial equilibrium models. These persistent spatial disparities may arise because of failures in two main automatic convergence mechanisms inherent to the spatial context: labour mobility and firm mobility (Venables, 2023[5]). A precondition for place-based policies is therefore that ‘automatic adjustment mechanisms’ in the spatial equilibrium model are incomplete (Partridge et al., 2015[39]; Kline and Moretti, 2013[40]).
Limits of labour mobility
A first automatic adjustment mechanism would be for people to relocate away from lagging places. With simple economic view, a reduction in relative wages in a place should provide a signal for workers to out-migrate. Over time, out‑migration could—in-theory—lower the local labour supply and lead to a reduction in the difference between relative wages. In practice, however, labour mobility is imperfect due to frictions (Schmutz and Sidibé, 2018[41]). This is supported empirically by low (and potentially declining) domestic migration rates. Migration can also have compositional effects that can make automatic adjustment through labour migration “problematic in the context of lagging regions” (Venables, 2023[5]).
Labour migration is insufficient to bring about convergence
Migration is an investment that comes with high fixed costs for migrants (Venables, 2023[5]). People chose where to live based on a range of economic and social factors. Moving to a more dynamic place can come with high fixed costs linked to the direct cost of relocation and from disruption to social networks. Indeed, inward and outward migration can be lower in lagging places where local ties are stronger (Zabek, 2019[42]; Heise and Porzio, 2019[43]). Furthermore, differences in earning potential may be insufficient to incentivise migration as some relative prices do not change across regions (such as wage rates set at a national level). Workers in high unemployment areas may also face skill and credit constraints that limit their ability to move (Kline and Moretti, 2014[6]).
Migrants also face high costs from moving to more dynamic places due to housing that may be less accessible and affordable. Migrants do not benefit from the same networks that current residents have when they search for housing, which can reduce their access to the housing market and increase housing costs in a new location. Furthermore, homeowners moving from a lagging place (where there is often depressed housing prices) to a more dynamic place can face very high and unaffordable housing, lowering the financial attractiveness of moving.
A sign of weak incentives for labour mobility is that inter-regional migration rates are trending downwards in many OECD countries. Since the early 2000s, inter-regional migration has declined in around half the OECD countries for which data are available, including North American and Asian countries (Causa et al., 2023[44]). In the U.S., annual domestic migration rates have trended steadily downwards since the 1960s, when nearly 20% of the population moved to a new address each year. Today, the number of annual movers is closer to 8% (Frey, 2023[45]) and only 3% move to another small region (TL3) (Figure 2.2). In Canada, inter-provincial net migration reached record lows in the years preceding the pandemic, before slightly rising (Statistics Canada, n.d.[46]; RBC Economics, 2023[47]). In the UK, which is among the top countries for inter-regional movers (Figure 2.2), 43% of people still work and live in the same place where they were born suggesting a geographic component to persistent inequality (Bosquet and Overman, 2019[48]).
Flows across TL3 regions within a country, % of the total population
Source: OECD Regional Database (Population mobility within the country – Regions), http://data-explorer.oecd.org/s/1s0
In response to low mobility, incentives to encourage people to move are sometimes proposed, but these are unlikely to bring about convergence between places. As people relocate to more productive place their life outcomes can improve (Chetty and Hendren, 2018[49]). Incentives to support mobility are sometimes proposed to encourage people to take advantage of this, but they are not always efficient or effective (Schmutz and Sidibé, 2018[41]). There are at least four main limitations to these types of relocation policies. First, they may not fully consider the intrinsic value that people put on places for their overall wellbeing. Second, moving to opportunity may not be feasible for a large part of the population given financial means and their ties to place, and may favour the outmigration of higher skilled and younger workers. Third, focusing only on labour mobility overlooks the political calls from “left behind” communities, with potential costs for social cohesion. Lastly, policies encouraging relocation do not address underlying social and economic problems of those who stay and may worsen their situation.
Labour outmigration can exacerbate the challenges facing lagging places
A concern with outmigration in the context of lagging regions is that it can adversely affect the labour force composition in a place, further reducing opportunities for development. Given the fixed costs that migrants incur from moving—both financial and through the disruption of social networks—the returns are higher for young and highly skilled who have higher future earning potential (Venables, 2023[5]). Highly skilled workers in less routine jobs also tend to have more national and international opportunities for work. As a result, younger and more skilled migrants are more likely to out-migrate, resulting in long-term changes to the demographic and skill composition that can exacerbate economic challenges (see Chapter 4 for discussion on demographic change). Indeed, across the OECD, young people between 15- and 29-years old account for more than half of the total within-country population flows (OECD, 2022[50]). In nearly all OECD countries for which data are available, young people move almost exclusively to metropolitan regions, driven by educational and professional opportunities.
Opportunities that come from growing-up and living in a particular place can affect life outcomes. Even at the neighbourhood level, relocating from lower-poverty areas can result in significant improvements (Chetty, Hendren and Katz, 2016[51]). Although migration can have positive impacts on livelihoods, the ability to move is conditional upon human and financial resources. People from places with lower-socioeconomic outcomes are likely to have reduced opportunities for skill acquisition and face other barriers that constrain their mobility. This can raise important questions of fairness and equity for communities left behind.
Limits of firm mobility
A second automatic adjustment mechanism would be for firms to move to lagging places. In the simple economic view, a reduction in relative wages should provide a signal to a firm to relocate into the affected place: a loss of jobs in one firm or industry could be compensated by the creation of new jobs. However, in practice, lagging places can remain unattractive for firms and inward investment. This may be explained by the fact that price signals are too small and agglomeration economies mean it can be costly for a firm to forego the benefits they would have in an existing cluster.
Price signals are insufficient to change firm location decisions
Firm investment decisions are based on multiple factors. Among the many considerations are local institutional quality and governance, geography, trade connectivity, existence of networks of suppliers, customers and workers, depth of the worker pool, market size (to support specialisation) and potential for technical knowledge spillovers (Venables, 2023[5]; OECD, 2021[52]). Lagging places can suffer from simultaneous barriers that create a barrier to firm investment, such as a lower skilled workforce, weak institutions and poor infrastructure quality. Given the diversity of considerations, changes in relative labour prices alone may be insufficient to change a firm investment decision and a multi-dimensional approach to approve attractiveness to firms in a place may be required (OECD, 2023[53]).
Given the diverse factors considered by firms and harmonisation of some costs within national economies, price signals may be too weak to incentivise firm mobility. Unlike with national economies, regional economic performance cannot be supported through automatic adjustments in relative price levels through changes in the national currency (Venables, 2023[5]). Instead, automatic adjustment relies on changes in the prices of firm inputs, particularly labour and land. As national labour markets are relatively integrated (e.g. harmonised minimum wages, similar public sector wages), differences in labour costs and other business inputs can be limited across places (e.g., regulations, interest rates, electricity, water, etc). While some ‘immobile’ factors such as land and housing do adjust, these are not always intensively used by firms so may be insufficient to change location decisions.
Firms value being embedded in existing clusters
Firms receive important benefits from being embedded in a cluster. Firms are willing to pay relatively high wages and rents to be located within an existing cluster because they benefit from productivity advantages. These exist due to agglomeration economies that provide ‘costless’ benefits transferred between firms through co‑location, including through improved access to customers and suppliers, increased opportunities to scale and specialise within a local industry, and knowledge spillovers between firms (see Box 2.3, page 8). Firms may also benefit from having access to a 'thick’ labour market, which can improve access to workers and support more efficient matching of workers to jobs (Moretti, 2010[54]).
Trade-off from being in a cluster are highly sector specific meaning that lagging regions are more likely to attract activities that are less likely to cluster, creating lower positive externalities. The propensity to cluster is related to the sector-specific benefits that relate to being in an agglomeration and the costs of labour supply and land (Venables, 2023[5]). Non-tradeable sectors, such as food industry, government services and customer services, receive lower benefits from being in an agglomeration than higher-skill sectors, such as finance and technology (Rice and Venables, 2022[55]; Venables, 2020[56]). As a result, it may be easier to move sectors with lower skill intensity and lower tradability as location decisions are mostly based on the advantages of being close to final customers or resource endowments (Venables, 2020[56]). Less developed places be unable to increase their productivity if they are only able to attract lower productivity economic activities that are less dependent on having links to existing clusters.
Market-driven spatial equilibria also do not sufficiently value local ecosystems
Market-based spatial equilibria typically also do not integrate the impact of economic activity on local ecosystems. These environmental impacts are external effects of economic activities which markets will not take into account unless they are priced through environmental taxes or tradable permit systems, such as the EU emissions trading system for greenhouse gas emissions. However, the externalities inherent in the major environmental challenges that will shape policymaking in the future are often spatially diverse and include a multitude of interrelated externalities that therefore often do not fully lend themselves to pricing. For example, biodiversity protection potentials differ across places and depend on actions that concern water use, land use, as well as air pollution. Safeguarding biodiversity potentials may also impact climate change mitigation and adaptation, such as for example, in afforestation. The spatially blind pricing of externalities may also suffer from the shortcoming that economic agents may not be able to substitute environmentally-friendly economic activities for environmentally damaging activities in response to pricing. Place-based interventions can help create opportunities for such substitution.
Trapped in a ‘low-level spatial equilibrium’
As a result of inefficiencies in automatic adjustment mechanisms described above, places can become trapped in a ‘low-level spatial equilibrium’. This equilibrium exists where workers and firms have limited incentives to invest in themselves or in a place, creating a vicious circle of development (Venables, 2023[5]). Workers may see limited opportunities for future employment, so their incentives to acquire skills can be reduced. This can undermine human capital development and lower the attractiveness of a place to firms. Firms can reduce or stop investing in a place as they see reduction in the availability of skilled labour and in local demand due to out-migration. Investment in physical capital can also be reduced as stagnating or declining land and house prices lower incentives to maintain or construct buildings. As the young and skilled migrate, future innovation potential may also be reduced, and the local tax base may be eroded. This may lead to a deterioration of public service provision, inefficient use of housing, infrastructure and services, and the failure of local institutions (Barca, 2009[11]).
The ‘low-level spatial equilibrium’ is closely related to the concepts of ‘regional development traps’ and ‘talent development traps’ and does not only apply to least developed places (Box 2.4). The low-level spatial equilibrium is linked to dynamic spatial equilibrium models where multiple equilibria are possible. This suggests that places may be able to move to a higher-level spatial equilibrium under the right conditions. Multiple equilibria do not only occur in least developed regions but may also be found in highly developed or transition regions. More developed places can also be affected by transitions or shocks that undermine past economic structures and find it challenging to ‘re-invent’ themselves.
The concepts of a ‘low-level spatial equilibrium’, ‘regional development trap’ and ‘talent development trap’ are closely related.
Low-level spatial equilibrium
A ‘low-level spatial equilibrium’ is where “workers and firms acting individually in their own best interests have no incentive to behave differently (for example, by acquiring additional skills or investing in new places)” (Venables, 2023[5]).
Regional development trap
The ‘regional development trap’ refers to “regions that face significant structural challenges in retrieving past dynamism or improving prosperity for their residents” (Diemer et al., 2022[15]). It draws inspiration from the ‘middle-income trap’ in international development theory but widens it to shed light on traps in higher-income countries and at the regional scale (Diemer et al., 2022[15]). Regional development traps occur in regions whose income, employment and productivity growth are consistently lower than their own historical performance along these same dimensions. These traps can concern regions with low, middle and high-income levels.
Talent development trap
The European Commission has extrapolated the concept of ‘regional development traps’ in the context of demographic change and human capital development. ‘Talent development traps’ occur in regions which are losing a higher share of their working-age population and achieving lower rates of tertiary education attainment than their national and supranational (i.e. European) peers. Given the impetus of human capital for regional development, tailored strategies to attract, retain and develop human capital should target, above all, regions stuck in these types of traps. Like regional development traps, they can potentially concern all types of regions. In the EU, 82 regions covering 30% of the population have been defined as in, or at risk of being in, a talent development trap (European Commission, 2023[57]).
Source: Author’s elaboration based on Venables (2023[5]), The case for place-based policy, https://cepr.org/publications/policy-insight-128-case-place-based-policy; Diemer et al. (2022[15]), The Regional Development Trap in Europe, https://doi.org/10.1080/00130095.2022.2080655; European Commission (2023[57]), Harnessing talent in Europe's Regions, https://ec.europa.eu/regional_policy/sources/communication/harnessing-talents/harnessing-talents-regions_en.pdf
Moving to a ‘higher-level spatial equilibrium’ may be possible. Dynamic spatial equilibrium models indicate that multiple equilibria can exist (Kline and Moretti, 2013[40]). This may create a role for government policy to provide significant and coordinated support to shift a place from a ‘vicious circle’ to a ‘virtuous circle’ (Venables, 2023[5]). Once in a virtuous circle, worker and firm expectations can change (Krugman, 1991[58]), leading them to invest in a place, which can restart cumulative development processes. The strong path dependency of local economic development (Redding, Sturm and Wolf, 2011[59]) means that once an a ‘virtuous circle’ is established it is likely to continue.
Inefficiencies in the spatial equilibrium do not automatically create a role for place‑based policy. Two alternate policy approaches could potentially be envisaged to help address inefficiencies in the spatial equilibrium and local market failures, in particular ‘spatially-blind’ policies and local policies.
Limits of ‘spatially-blind’ policies
‘Spatially-blind’ policies are a ‘one-size-fits-all’ approach. These policies are “spatially-blind in their design and universal in their coverage” (World Bank, 2009[8]). They include many macro-structural and sectoral policies, such as regulations on land, labour and trade, and public services for education and health. While macro-structural and sectoral policies do not necessarily dismiss the importance of local realities, they consider that good macro-economic management is what matters most for the well-being of citizens (Oliveira Martins, 2021[60]).
‘Spatially-blind’ policies are often argued for on the basis of promoting efficiency in a national economy and avoiding mobility distortions. Spatially-blind policies assume that, by helping people to become skilled or entrepreneurial, labour mobility and knowledge spill-overs will be sufficient to lead to higher individual incomes, the diffusion of knowledge and innovation, and convergence across regions. These policies advocate for directing public resources efficiently in a spatially-blind way, which may overlook inefficiencies in the spatial equilibrium or market failures that can be complex to understand or model. In general, spatially-blind policies only attempt to address spatial inequality indirectly and in a compensational manner (Pike, Rodriguez-Pose and Tomaney, 2017[61]).
Spatially-blind policies face limitations when addressing inefficiencies and market failures linked to the spatial equilibrium. There are at least three limitations of spatially-blind policies in this context that create a role for place-based policies:
1. ‘Spatially-blind’ policies are unable to deal with policy challenges that are highly differentiated across places. By design, ‘spatially-blind’ policies do not account for different characteristics of different places and different ‘elasticities’ (e.g., of housing and labour markets). This can lead to inefficiencies as policies will not generate the same behavioural response where elasticities are different (Austin, Glaeser and Summers, 2018[3]). For example, devoting resources towards areas facing high unemployment (i.e. a more elastic supply of workers) can have a much stronger effect on reducing the non-working rate than resources directed towards areas with a tighter labour market, particularly where housing supply is constrained. Different behavioural responses to policy interventions can provide a rationale for place-based policies (Austin, Glaeser and Summers, 2018[3]).
2. Spatially-blind approaches are unable to address complex and interconnected local policy challenges. Many policy challenges facing lagging places are complex and multi-dimensional. This creates a need for integrated and cross-sectoral policy to simultaneously address multiple and specific local needs (Green, 2023[62]). By definition, ‘spatially-blind’ policies do not adapt to the characteristics of different places, so are unlikely to be able to address this type of policy challenge. Furthermore, cross-sectoral integration can be easier at smaller geographical scales.
3. Spatially-blind policies are insufficient to bring about the step change that is often required. Places trapped in a ‘low-level spatial equilibrium’ can need significant support to move to a ‘higher-level spatial equilibrium’ (Venables, 2023[5]). As spatially-blind policies spread resources thinly across a whole territory, they likely can only bring incremental changes in the conditions of a place. These incremental changes may be insufficient to bring about the large change required for changing an equilibrium (Venables, 2023[5]).
Limits of local institutions
Where local institutions are robust, they can have an essential role in shaping the development of a place. A wide range of public, private, non-government and civil society organisations collectively contribute to the economic development of a place. These local institutions are often well placed to understand place-specific needs and implement tailored responses attuned to local conditions in an efficient way. By designing local responses and mobilising diverse stakeholders, these actors may be able to endogenously change the development trajectory of a place and overcome external shocks. Local social capital can also play an important role to support local development.
On their own, however, local institutions may sometimes be unable to address market failures linked to the spatial equilibrium. While local institutions can do a lot to support regional or local economic development, they can face specific limitations when confronted by market failures, structural changes or asymmetric shocks. There are at least four limitations local institutions may face that can create a role for place-based policy:
1. Regional and local governments may not have the right scale to tackle spatially‑defined market failures. Administrative boundaries are often not aligned with specific market failures and are often more closely related to functional areas (OECD/European Commission, 2020[35]). They can also span across international borders or – in contrast - be concentrated in a specific neighbourhood. As a result, there can be a spatial mismatch that ‘spatially-blind’ regional or local policies are insufficient or inefficient at tackling.
2. Local institutions may be weak or inefficient. In some places, ‘local elites’ may be responsible for designing and running local economic institutions that can influence the accessibility of a place for outside firms and investors (Barca, 2009[11]). As a result, they “may not choose to put in place efficient economic institutions if this is likely to reduce their share of resources” (Barca, 2009[11]). This form of ‘rent seeking’ may contribute to a place becoming trapped in a vicious circle of development where weak institutions are perpetuated. Weakness in local economic institutions may create a role for “exogenous intervention” to establish more efficient economic institutions and open a local economy (Barca, 2009[11]).
3. Local institutions may lack financial and administrative capacity to bring about transformative change. Regional and local governments can face important financial and administrative constraints (OECD, 2019[63]). They can sometimes lack the financial and administrative capacity required to overcome local market failures on their own, such as the resources required to support a ‘big push’ or to respond to a place-specific shocks (e.g., natural disaster relief), so place-based policies have a role to bring external resources and enhance capacity. The role for place-based policies is even stronger where capacity support could not sufficiently be developed through alternate fiscal transfers schemes.
4. Local policy competition can be inefficient. In some circumstances, decentralised economic development policymaking can result in inefficient policy competition between jurisdictions. A prime example of this is where regional and local government give tax incentives for firms to locate in their jurisdiction, which can risk creating a “race to the bottom” (Blöchliger and Pinero Campos, 2011[64]).
Limits of local institutions can create a role for place-based policies. Where places are unable to address market failures linked to the spatial equilibrium on their own, “exogenous intervention” through place-based policies may be required to shift the development trajectory of a place and strengthen local institutions (Barca, 2009[11]). Alongside place-based policies, other policy approaches may also be considered alongside to strengthen local institutions for supporting long-term development (e.g., administrative capacity building, fiscal support, decentralisation reforms, etc.).
Place-based policies can help address market failures and institutional bottlenecks linked to the spatial equilibrium. Given the insufficiency of ‘spatially-blind’ policy approaches and weaknesses in local institutions, place‑based policies have an essential role to support local and regional economic development and wellbeing. Three main economic rationales for place-based policies relate to overcoming a spatial mismatch that creates ‘untapped potential’ in some places, upgrading local public goods and helping to address asymmetric trends and shocks. Place-based policies can also support the strategic diversification of economies, support more integrated policy and facilitate innovation.
Unlocking ‘untapped potential’ arising from a spatial mismatch between firms and workers
Inefficiencies in the spatial equilibrium and failures in automatic adjustment mechanisms can lead firms and people to be overly concentrated in certain places. As highlighted earlier in this Chapter, information costs and lack of coordination between workers and firms may result in too much geographic concentration. Indeed, there is some evidence that higher-skilled workers (Fajgelbaum and Gaubert, 2020[65]) or firms (Bilal, 2021[66]) can become overly concentrated in agglomerations, reducing economic efficiency. Furthermore, there can be place-specific inefficiencies in local labour markets, such as inefficient hiring practices in places with a smaller pool of potential employees (Kline and Moretti, 2013[40]). In developing countries, there is also increasing evidence of “sterile agglomerations”, where the population becomes highly concentrated in agglomerations without this providing economic efficiency gains (Grover and Maloney, 2022[67]; World Bank, 2022[68]).
A spatial mismatch between firms and workers can result in asset underutilisation, creating ‘untapped potential’. ‘Stranded assets’ suggest allocative inefficiencies in a local economy (Venables, 2023[5]). This can include the underutilisation of labour (e.g., due to high unemployment or low workforce participation), capital (e.g., due to limited access to complementary skills and technologies), ideas (e.g., through limited access to finance), land (e.g., due to strict land use regulations) and buildings (e.g., outmigration of firms and people). Places that have undergone an economic shock, for example, may have large numbers of skilled workers who are unable to find meaningful employment and do not want to relocate, meaning their skills are underutilised. As a result of inefficiencies, places may not achieve their economic potential. Reducing this underutilisation can provide a meaningful contribution to a national economy (OECD, 2023[13]; OECD, 2011[69]).
‘Untapped potential’ can be higher in lagging places or places undergoing a transition, increasing the potential for place-based policies. Given failures in automatic adjustment mechanisms described above, lagging places and places in transition can have significant excess labour, land, buildings and infrastructure. This means these places can be more responsive to policy action. Unemployment support, for example, may be more efficient when it is targeted towards a local labour market with high unemployment (Austin, Glaeser and Summers, 2018[3]). Similarly, benefits of a policy or investment are less likely to be captured by local landowners if there is higher housing supply.
Restarting local development processes
Place-based policies can help to unlock untapped potential by restarting local economic development processes. As described earlier in this Chapter, places can become stuck in a ‘low level spatial equilibrium', which represents a vicious circle where firms and workers have limited incentives to invest in a place or themselves (Venables, 2020[56]). In these cases, there can be a role for place-based policies to shift a place into a ‘higher‑level spatial equilibrium’ by creating the conditions for private investment to occur. Indeed, dynamic economic geography models with multiple steady state equilibria show large policy interventions can result in permanent effects (Kline, 2010[70]). If a policy commitment is credible, it may even become a self-fulfilling prophecy as the mere announcement may be enough to bring about private investment (Krugman, 1991[58]).
Restarting local economic development processes requires credible place-based policies that enhance the conditions for firms to invest. Increasing private investment is often a key objective of place‑based policies as it can create positive externalities by raising the productivity and scale of other firms in a location (Kline and Moretti, 2014[6]). By stimulating the local economy and providing employment it can also help increase well-being. Place-based policies can target local barriers to private investment by enhancing infrastructure, increasing human capital, facilitating innovation, supporting capital mobilisation and upgrading institutions. By targeting local education and employment needs, for example, place-based policies can increase employment leading to important positive social externalities, including lower crime and reduced social spending (Bartik, 2020[4]).
While use of financial incentives to encourage private investment is commonplace, other approaches to improve attractiveness to firms should also be considered. Many place‑based policies involve tax and regulatory incentives that encourage firms to move to a targeted place, such as enterprise zones in the United States (Neumark and Simpson, 2015[7]; Kline and Moretti, 2014[6]) and special economic zones (SEZs) more generally. Evidence on the efficiency of these financial incentives is mixed, in part because–as previously mentioned—tax incentives can result in inefficient tax competition between jurisdictions (i.e., a “race to the bottom”). Given this, policy makers should look beyond financial incentives and address other barriers to private investment, such as improving human capital and upgrading infrastructure. These approaches can also provide long-term economic benefits that endure beyond a single firm or industry.
Supporting cluster development
Establishing new industrial clusters or agglomerations can help foster productivity, innovation and commercialisation. Through geographic proximity, clusters can reduce transaction costs (e.g. communications, logistics, market availability) and support knowledge spillover between and within related sectors (Porter, 2001[71]; Delgado, Porter and Stern, 2015[72]). Strategically targeting the development of a specific sector aligned with local assets may support a more efficient use of resources than spreading those resources across multiple sectors. While developing a cluster can be important for re-starting economic development processes, it is not easy. A single firm is unlikely to want to move to a cluster due to the loss of potential agglomeration benefits, creating a ‘first mover problem’ (Box 2.5). As such, creating a cluster can require substantial support during early stages of development. Barriers can be even stronger for tradeable firms that are more interconnected and rely on a large ecosystem of local suppliers and workers; however, these firms may also provide more local economic benefits.
The location of firms is ‘sticky’. Firms that move to a lagging place risk foregoing significant agglomeration benefits of being in an established cluster. A lagging place may also not have the right skill mix as local workers may not see potential employment opportunities until a cluster is established. Furthermore, while it might be beneficial for a whole cluster to move to a new location, it will not be in the interest of any firm to move first. This represents a ‘first mover’ problem. Without synchronised movement of multiple actors, a new cluster will not be established, even if this is a sub-optimal outcome.
Source: Venables (2020[56]), Why some places are left-behind: Urban adjustment to trade and policy shocks, https://doi.org/10.1093/oxrep/graa012
The economic impact of creating a new cluster can be difficult to evaluate as there is a risk of simply shifting the location of economic activity within a country. While in some cases it may be economically efficient for a whole cluster to relocate, this depends on the firm origin and efficiency of the different clusters. National and local policy makers may lack information to make an informed assessment of the aggregate economic impact of creating a new cluster. Placing a focus on emerging industries may reduce the risk of a simple relocation of firms between jurisdictions in a country.
Upgrading local public goods
Place-based policies have a role to help improve local public goods that underly local economic development and well-being. Public goods, such as infrastructure and public services, have important benefits for productivity, well‑being and the environment, and are often underprovided by the private sector (Box 2.6). Many public goods, especially infrastructure, is inherently ‘place-based’, given that it is spatially concentrated. In lagging places, private investment and economic development can be held back by the under-provision of local public goods. For example, manufacturing companies may lack sufficient access to affordable and reliable transport, water and electricity networks. In large cities, firms and workers can face congestion diseconomies (e.g., road congestion) that reduce incentives to invest in development.
Public goods are defined as being ‘non-rival’ and ‘non-excludable’ (Fratesi, 2023[73]). This means that they are available to all users and that use by one person does not prevent or diminish use by others. Public goods are typically under provided by the private sector as it can be difficult to make users pay for use, creating a role for government policy (Fratesi, 2023[73]). Many public goods are local, such as transport networks, hospitals, education facilities and parks. Local governments often have the primary responsibility for proving local public goods (OECD/UCLG, 2022[74]), but provision can also be supported by higher-level governments.
Source: Fratesi (2023[73]), Regional Policy: Theory and Practice, https://doi.org/10.4324/9781351107617
The role for place-based policies to support local public good provision can be stronger where they are underprovided by lower levels of government. Many local public goods are provided by subnational levels of government. In OECD countries, subnational governments are responsible for 55% of total public investment and 37% of total public expenditure (OECD, 2023[75]). In some cases, however, these governments can face constraints that limit their ability to sufficiently provide public goods needed for economic development (e.g., administrative and fiscal capacity, limited competencies). Furthermore, subnational governments may not have sufficient incentives to consider spillovers that occur outside the jurisdictions and local institutions may be weak (Barca, 2009[11]). In these cases, place-based policies from higher levels of government can help provide local public goods to support local economic development.
Place-based policies that have a strong focus on local public good provision can generate positive impacts on economic development. Large enough public investment in an underdeveloped region can generate potentially significant increases in productivity and welfare (Kline and Moretti, 2014[6]; Azariadis and Stachurski, 2005[76]). In the United States, for example, the Tennessee Valley Authority undertook a large-scale federal investment that led new industries to develop with substantial increases in productivity and welfare (Kline and Moretti, 2014[77]) (See Chapter 7 for more discussion). Ultimately, the existence and extent of benefits depends on the effectiveness of public investment across multiple levels of government (OECD, 2014[78]).
Provision of local infrastructure needs to be consistent with reaching climate neutrality. Local institutions may not have sufficient capacity to develop climate neutral infrastructure on their own, which can create a role for external support—alongside participation of local players—to integrate national and international climate policy priorities. For example, the provision of low cost-carbon free transport services through the port of Hamburg has required coordination among businesses active in land-based, as well as in maritime transport, to deploy and optimally use relevant infrastructure, together with local, national and EU policy makers. Integrated and multi-level policy is critical for the local economy to ensure low-cost trade in the future climate neutral world (OECD, 2024[79]).
Responding to asymmetric shocks and transitions
Shocks and transitions often have asymmetric impacts. As outlined earlier in this chapter, many of the global policy challenges being faced today—climate change, digitalisation and demographic change, among others—have strong asymmetric impacts. Places can also be affected by spatially concentrated natural disasters, such as earthquakes, floods and wildfires. Large shocks or transitions can risk undermining economic and social structures, creating long-term scaring effects. Where a place is unable to sufficiently respond to these challenges, a vicious circle may develop that undermines future development prospects at the detriment of a local and national economy.
Lower-levels of governments may have insufficient fiscal or administrative capacity to respond to asymmetric trends and shocks on their own. As outlined earlier in this chapter, lower levels of government may not have relevant competencies or sufficient capacity to respond to asymmetric trends and shocks. In these cases, higher levels of government may act as an 'insurer‘ by providing spatially‑targeted support to a place. This can be seen in the case of disaster relief after an extreme weather event, which often requires coordinated action across multiple levels of government (Paterson et al., 2023[80]).
Place-based policies are increasingly seeking to proactively address risks to avoid high costs in the future. There is increasing recognition of the need for place-based policies to also support places at risk of failing impending economic transitions (Suedekum, 2023[24]). In the EU, for example, the Just Transition Fund provides support to territories expected to be the most negatively impacted by the transition towards climate-neutrality. The spatially-targeted support seeks to allow places up- and re-skill workers, invest in Small and Medium-sized Enterprises (SME), create new firms, support research and innovation and assist with environmental rehabilitation, amongst other areas.
Place-based policies can help to disrupt existing development pathways and support transition processes. Places can be locked-in to an existing development trajectory based on their historical assets and industries. In the absence of external support there could be limited incentives to deviate from existing paradigms, and even attempts to further subsidise declining sectors until it is too late (OECD, 2020[81]). In this context, place-based policies can have a role to disrupt existing local equilibria and support regions to innovate new paths forward. For industrial regions reliant on fossil-fuel based industries (partly due to access to fossil fuel deposits), for example, this could include support to transition to green industries (McCann and Soete, 2020[82]). Place-based policies help to ensure that existing knowledge and assets (e.g. skilled workforce, infrastructure) are put to use for related industries, such as those relevant for the green and digital economy (Schwaag Serger et al., 2023[83]).
Other rationales for place-based policies
Place-based policies can be supported by a number of other rationales, including their potential to support the strategic diversification of an economy, to enhance policy integration and to increase innovation.
Strategic diversification of an economy
Increased adoption of ‘place-based industrial policies’ highlights the capacity of place-based policies to deliver strategic investments that increase the competitiveness of a national economy. Industrial policies can play a role in addressing economic, social and environmental challenges that markets cannot deal with on their own (Millot and Rawdanowicz, 2024[84]). The place-based approach to industrial policy seeks directs investment towards certain places to simultaneously support equitable development, particularly distressed communities or those at risk from an industrial transition. Across OECD countries, there has been increased adoption of place-based industrial policies in recent years (Box 2.7). While these policies have the potential to address multiple goals for improved economic development, potential trade-offs need to be understood carefully managed (Millot and Rawdanowicz, 2024[84]). Effective policy design can potentially help to reduce risks from ‘picking winners’. In the US, for example, the Inflation Reduction Act (IRA) tax credits for private investment included bonuses of 10 or 20 percent for investments located in a ‘low-income’ or ‘energy community’ (US Department of the Treasury, 2023[85]).
In recent years, several countries have employed large-scale industrial policies to promote competitiveness in strategic sectors. In the United States, for example, the Inflation Reduction Act (IRA) aims to revitalise American manufacturing and the Chips and Science Act (CSA) aims to increase global competitiveness in strategic industries. In the European Union, the Green Deal includes a Net Zero Industry Act (NZIA) and Critical Raw Materials Act to position the European Union as a production hub for green technology and critical minerals. Other countries have also made large investments, such as scaling the production of batteries for electric vehicles for the North American market in Canada.
New industrial policies often have an explicit objective to support the development of specific places within a country, partly in recognition of the hardship these places face due to current or former industrial transitions. In the United States, many investments in the IRA target ‘energy communities’ with historical reliance on fossil fuels and the Chips and Science Act has funded Regional Technology and Innovation Hubs that are predominately located in the country’s traditional industrial heartland (Austin and Muro, 2024[86]).
In the European Union, the NZIA has a focus on less-developed regions to “encourage the take up of net-zero strategic projects in less developed and transition regions through investment packages of infrastructure, productive investment in innovation, manufacturing capacity in SMEs, services, training and upskilling” (European Commission, 2023[87]). The Strategic Technologies for Europe Platform (STEP) was set up in 2024 by the EU to support European Industry and boost investment in critical technologies in Europe. STEP will raise and steer funding across 11 EU programmes to three target investment areas:
Digital technologies and deep-tech innovation
Clean and resource efficient technologies
Biotechnologies
STEP offers financial incentives to direct Cohesion Policy funds toward investments in critical technologies. Support for productive investments in large enterprises will be available for the first time in less developed and transition regions, as well as in more developed regions in Member States with a GDP per capita below the EU-27 average (European Commission, 2024[88]).
Source: Authors’ elaboration based on Austin and Muro (2024[86]), CHIPS and Science Act programs are writing a new story about the Rust Belt, https://www.brookings.edu/articles/chips-and-science-act-programs-are-writing-a-new-story-about-the-rust-belt/; European Commission (2023[87]), Proposal for a REGULATION OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL on establishing a framework of measures for strengthening Europe’s net-zero technology products manufacturing ecosystem (Net Zero Industry Act), https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A52023PC0161; European Commission (2024[89]), Commission welcomes the provisional agreement to reinforce the EU long-term budget and to boost Europe's competitiveness and sovereignty, https://ec.europa.eu/commission/presscorner/detail/en/ip_24_681
Place-based policies can also support geographic diversification of an economy for efficiency or strategic goals. Where economy activity becomes too spatially concentrated, a national economy may end up with too few places of productive activity (Venables, 2023[5]). Places that experience a negative economic shock, for example, are likely to switch to non-tradeable activities, which can increase polarisation within a country and lower income in affected places and reduce national economic performance (Venables, 2020[56]). Geographic diversification may also support other policy goals, such as maintaining population or industry in a geostrategic location.
Improving policy effectiveness through local integration at the right scale
Multi-dimension policy challenges faced by many places often require integrated and cross-sectoral solutions. For example, places with entrenched high levels of unemployment can face multiple localised barriers that need to be simultaneously addressed, including in relation to education, healthcare, employment services and crime. Sectorial policies on their own may not provide sufficient local integration to address interconnections between these challenges. Cross‑sectoral policy action can help to break down policy silos and better align resources to local gaps in service provision and needs (Green, 2023[62]). The Households into Work programme in Liverpool City Region (England), for example, brought ‘wrap-around’ services to residents at a central location within a neighbourhood to better target their complex needs (Green, 2023[62]).
Policy challenges are often not aligned with administrative boundaries, creating a need for vertical and horizontal policy coordination. Policy challenges can exist at a range of geographical scales (see Chapter 3). Local labour markets, for example, often do not correspond to jurisdictional boundaries and stretch beyond a single local government jurisdiction (OECD/European Commission, 2020[35]). Administratively fragmented and small jurisdictions, such as small and medium cities, can find it more challenging to exploit agglomeration economies on their own. As a result, policy coordination among and across levels of government is essential, potentially creating a role for place-based policies (OECD, 2014[78]).
Facilitating and enhancing innovation
Innovation, both at the frontier and for “catching up”, is key for economic growth in all types of places (OECD, 2020[81]). Weak productivity and low economic growth across many places within a country can result in substandard aggregate economic growth. In one-third of OECD countries, productivity growth has been concentrated in a single and already highly productive region (OECD, 2020[81]). In such circumstances, broadening productivity growth across a territory can be important to reach aggregate growth potential. By investing in research and development, and promoting innovation spillovers and diffusion, policy makers may broaden the potential for productivity growth across all places.
Local context matters for knowledge creation and diffusion (OECD, 2011[90]). Innovation requires multiple conditions that vary across different local contexts, including for example, trained personnel, networks, a well-designed regulatory and institutional environment, a high degree of entrepreneurship and creativity, risk-friendly funding sources, and innovation-oriented business practices (OECD, 2011[90]). One common link is the role that higher education and research institutions play in linking academic and external knowledge with local industrial and workforce demands, thus adapting frontier innovation to local contexts and supporting the uptake of innovative practices (Pinto, 2024[91]). Drivers of innovation can also differ significantly between places based on unique local characteristics, such as pre-existing industrial mixes, presence of research institutions and infrastructure accessibility (Joint Research Centre, 2021[92]).
Place-based policies can enhance local and regional innovation systems. They can help address the place-specific barriers to innovation, including by enhancing links between universities and the public and private sectors. Place-based policy can therefore identify and support existing or emerging clusters based on local competitive advantages (Porter, 1998[93]). They can provide targeted support (e.g. shared technical spaces, tax incentives in innovation districts) to support would be innovators through potential costly transition periods (Katz and Wagner, 2014[94]). Place-based innovation policies can also support the experimentation of innovation policies at a smaller scale (Magro and Wilson, 2019[95]).
Place-based innovation policies have an important role to improve the productivity of places. In the European Union, over 180 regional S3 strategies have been developed, that are already generating results in terms of co-operation between public and private actors within regions (Berkowitz et al., 2023[96]). For example, Piedmont in Italy has an integrated strategy to support regional innovation (OECD, 2021[97]). In the United States, the Research Triangle Park in North Carolina has helped revitalise a previously lagging region (Wessner, 2013[98]) with its affiliates performing USD 6 billion in annual research (Research Triangle Park, n.d.[99]).
Understanding the potential impact of place-based policies is challenging. As the previous sections have highlighted, there can be clear theoretical rationales for place-based policies. However, understanding the impact of place-based policies is complex due to multiple direct and indirect effects that make these policies complex to understand and model (see Chapter 5 for discussion of monitoring and evaluation). Furthermore, empirical evidence on place-based polices is incomplete, although there is evidence in favour of place-based policies in some areas.
Evidence of place-based policy effectiveness
Empirical evidence on the effectiveness of place-based policies indicates that these policies can have a positive impact. Research conforming to high academic standards suggests that local development policies (which includes place-based policies) often have a positive impact in terms of employment and GDP (Box 2.8). However, much uncertainty remains, not only because evaluations are often not carried out to sufficiently high standards but also as data are often of insufficient quality to discern clear impacts (an issue further discussed in Chapter 5).
In systematic reviews of nearly 15,000 local economic development policy evaluations by the What Works Centre for Local Economic Growth in the United Kingdom, only a few were found to adopt robust methodologies that allow to interpret estimated impacts as being caused by place-based policy with a high degree of confidence. Considering such robust evaluations only, half of local economic development policies have positive employment outcomes. This is true for most policy areas. Other types of outcomes across reviews show similar results. For example, for EU cohesion policies, where evaluations look at GDP per capita outcomes, the success rate is 45%. Less robust evaluations often do not study the impact of policies, but rather their inputs (e.g., the amount of money spent or policy actions), or they evaluate their possible effects ex-ante, before they happen, through modelling exercises (Nathan, 2023[100]).
Summary of OECD-wide systematic reviews of local economic development interventions, including place-based policies, carried out by the What Works Centre for Local Economic Growth, 2013-2019.
Source: Adapted from Nathan (2023[100]), Things We Don’t Want to Know? Monitoring and evaluating place-based policies, https://www.oecd.org/content/dam/oecd/en/about/projects/cfe/place-based-policies-for-the-future/things-we-dont-want-to-know-monitoring-and-evaluating-place-based-policies.pdf
Given the structural mega-forces that drive spatial disparities, and the relatively small scale of most place-based interventions, a success rate of 50% may be interpreted positively (Nathan, 2023). The fact that half of the robustly-evaluated place-based policies produce positive effects does not mean the other half has negative effects. Instead, the data have not allowed to discern a direction of causal impact. Remaining evaluations of EU Cohesion Policies, for example, largely produce statistically insignificant policy effects. This can be due to the impact being weak but could also reflect weak regional data. Negative impacts are rare. Evaluations that find negative impacts typically suggest an explanation, such as poor implementation. Negative effects in some cases also reflect that programme design is not always well captured in the evaluation. For example, firm accelerator programmes do not always have positive effects on firm survival rates because they may force founders to come up with robust startup business models, which may induce them to set up a new startup, depressing measured survival rates, even if the start-up project eventually succeeds.
Source: Authors’ elaboration based on Nathan (2023[100]), Things We Don’t Want to Know? Monitoring and evaluating place-based policies, https://www.oecd.org/content/dam/oecd/en/about/projects/cfe/place-based-policies-for-the-future/things-we-dont-want-to-know-monitoring-and-evaluating-place-based-policies.pdf; What Works Centre for Local Economic Growth (2016[101]), Guide to scoring evidence using the Maryland Scientific Methods Scale, https://whatworksgrowth.org/wp-content/uploads/16-06-28_Scoring_Guide.pdf; What Works Centre for Local Economic Growth (2022[102]), An 8-step guide to better evaluation, https://whatworksgrowth.org/resource-library/8-step-evaluation-guide/
Evaluation requires considering specific types of place-based policies and local characteristics. Place-based policies are highly diverse in their objectives, locations and instruments (e.g., tax incentives, grants, governance structures, etc.). As such, analysing the effects of place-based policies requires considering factors such as the specificities of the policy, complementary policy settings and the characteristics of place. Analysing policies that extend broadband internet, for example, requires considering the extent to which firms train workers, reorganise sales, or adjust supply chains to take advantage of faster internet connections. It may also require considering the economic and geographic characteristics, as better broadband connections appear to provide higher benefits to service industries and skilled workers, and economic effects tend to be larger in urban areas compared to rural areas. Various studies have been undertaken on specific place-based policies showing impacts ranging from more positive (Freedman, Khanna and Neumark, 2023[103]; Hyman et al., 2022[104]) to more negligible (Freedman, Khanna and Neumark, 2023[105]).
Place-based policies can generate positive spillovers outside the targeted place. Place-based policies typically involve concentrating resources on a specific place, but positive spillovers can spread to non-recipient jurisdictions. One reason that spillovers may occur is because beneficiaries import many essential goods and services from other places (Crucitti et al., 2023[106]). Cohesion Policy, for example, has been shown to generate positive spillovers (Mohl and Hagen, 2010[107]; Fidrmuc, Hulényi and Tunalı, 2019[108]).
A question for place-based policies is whether redirecting support for lagging regions to more developed regions could provide a higher return and over which period. This links to discussions of efficiency and equity. This approach assesses place-based policies for lagging regions against a more demanding benchmark, albeit with a limited view of long-term consequences from leaving assets in less developed regions underexploited. In this context, findings are mixed, with some studies (Crucitti et al., 2021[109]; Crucitti et al., 2022[110]) highlighting higher national returns from investment in developed regions, while others, in particular support for non-transport infrastructure and for private investment, show substantial positive spillovers, resulting in national benefits from investment in less developed regions (Barbero et al., 2024[111]). Another interpretation of this evidence is that place‑based policies can also be effective in strongly performing places.
Impact assessments often remain limited to income and employment outcomes. Given the importance of social and environmental challenges, there is a need to integrate broader well-being and environmental outcomes to assess impacts of “place-based policies for the future” (see Chapter 5). They will need to assess the consistency of policies with major future challenges, notably climate policy objectives and resilience. They should also consider the opportunity costs that could arise from leaving assets underutilised. Policies that are not consistent with these objectives risk resulting in failed spending, which can ultimately decrease economic and social outcomes and resilience.
Towards more effective place-based policies
As this chapter has outlined, there is a theoretical and empirical basis for place-based policies. Persistent economic and social underperformance in many places, and the high cost of leaving places behind, highlight the need to move away from a ‘business as usual’ approach. It is increasingly clear that policy makers cannot rely on the ‘automatic adjustment mechanisms’ of labour and firm mobility to lead to convergence between places. Neither can they rely on ‘spatially blind’ policies to address place‑specific challenges. Place-based policies can be justified by economic rationales linked to specific market failures or imperfections. Even though empirical evidence is somewhat limited, the existing evidence points to a positive impact.
Ultimately, the impact of place-based policies relies on their effective design and implementation. Place-based policies can help to improve the factors and conditions that help cities and regions to grow and innovate, such as knowledge networks, creativity, diversity, amenities and institutions (Iammarino, Rodriguez-Pose and Storper, 2019[112]). But their success is not guaranteed. Addressing persistent gaps in economic and social outcomes requires “place-based policies for the future” that are both effective and efficient. The subsequent chapters highlight key elements of effective place-based policies.
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← 1. This chapter was informed by the first workshop in the OECD-EC series on Place-Based Policies for the Future that was held on 14 April 2023 with invited experts. Papers for the seminar were prepared by Professor Jens Suedekum (The broadening of place-based policies – from reactive cohesion towards proactive support for all regions) and Professor Philip McCann (How have place-based policies evolved to date and what are they for now?).
← 2. Based on data for 377 regions where data was available in the OECD Regional Database (2024)
← 3. EU Cohesion Policy defines the following categories of regions: less developed regions have a GDP per inhabitant that is less than 75% of the EU average; transition regions have a GDP per inhabitant that is between 75% and 100%; and more developed regions have a GDP per inhabitant that is above 100%.