DP2085 The Core-Periphery Model With Forward-Looking Expectations

Author(s):	Richard Baldwin
Publication Date:	February 1999
Keyword(s):	Economic Geography, Forward looking expectaions
JEL(s):	F1, F2, R1
Programme Areas:	International Trade and Regional Economics
Link to this Page:	cepr.org/active/publications/discussion_papers/dp.php?dpno=2085

The 'core-periphery model' is vitiated by its assumption of static expectations. That is, migration (inter-regional or intersectoral) is the key to agglomeration, but migrants base their decision on current wage differences alone--even though migration predictably alters wages and workers are (implicitly) infinitely lived. The assumption was necessary for tractability. The model has multiple stable equilibria, so forward-looking behaviour requires characterisation of global stability in a non-linear dynamic system (a potentially intractable problem). This paper's main contribution is to present a set of solution techniques-partly analytic and partly numerical-that allows consideration of forward-looking expectations. Surprisingly, we find that if migration costs are sufficiently high, allowing forward-looking behaviour changes nothing, so static expectations are truly an assumption of convenience. If migration costs are lower, history-vs-expectations considerations emerge. Agglomeration, therefore, can be a self-fulfilling prophecy.