How (and why) do regions grow?

There are many different approaches to regional economic development – ranging from education-led (every region wants a university campus), population led (from Busselton to Trundle), infrastructure-led (classic ‘build it and they will come’ optimism), innovation-led (joining up researchers, innovators and creative business people) right through to subsidy-led ‘smokestack chasing’ where large employers are offered generous incentives (at taxpayer expense) to locate to a particular region. All of these are in play in Australia at present, and all are well tried and tested in the US, Canada and Europe too. With so much at stake, is there any evidence as to what works, and what actually makes regions (as opposed to capital cities) grow?

The OECD did a major study into what drives regional growth in 2009 (How Regions Grow: Trends and Analysis) which combined quantitative and qualitative analysis to identify the drivers of regional growth in OECD member countries. The study found four main actions stimulate regional growth:

1. Provide infrastructure as part of an integrated regional approach. The analysis suggests that infrastructure alone has no impact on regional growth unless regions are endowed with adequate levels of human capital and innovation. In other words, infrastructure is a necessary, but insufficient, condition for growth. The analysis also reveals that it takes about three years for infrastructure to positively influence growth.

2. Invest in human capital. Regions with well-educated populations will grow. Investments in tertiary education take about three years to have a positive impact on regional growth.

3. Emphasise innovation and research and development. Investments in R&D have a positive effect on patent activity in all categories, as do R&D expenditures by businesses, the public sector, higher-education institutions and the private non-profit sector. However, innovation is a longer-term process and appears to have a positive influence on regional growth only after five years.

4. Focus on integrated regional policies. Sources of growth from within regions, such as human capital and innovation, are more important than a region’s physical distance from markets. Although a region with good accessibility to markets has an added advantage, its growth depends on the presence of human capital, innovation, infrastructure and economies of agglomeration. Regions perform well when local actors in a regional innovation system can communicate easily with each other. (p17)

There are a lot of lessons in here.

Firstly, think about the implications of the findings on infrastructure. It’s still touted here as a saviour (recall the promises for opening up northern Australia before the election?) but the actual findings are that it does nothing without “adequate levels of human capital and innovation”. So it doesn’t pay to push infrastructure too far ahead of these two other crucial factors. In fact a key finding from the study was that all interventions to promote growth need to be carefully targeted and sequenced. For example, while education and infrastructure are both important in regional growth, over-investment in transport infrastructure may well lead to mass movement of people out of a target region to live or work, if the work and education opportunities are not perceived as being adequate. Conversely, over-investment in education without appropriate levels of investment in infrastructure and suitable job availability may well lead to residents leaving the target region after education to chase work elsewhere.

Secondly, human capital has now been shown to have a measurable impact on rates of regional economic development. Formal training and education, and on-the-job skills building are all crucial. The connection is that workers can’t keep doing the same things the same way and expect to drive growth. Individual skills, and connections between people (workers, managers, financiers) are all aspects of human capital that need to be functioning at a high level for a region to grow. The OECD study found that labour markets are also important for fast-growing regions, especially when labour supply and labour demand increase simultaneously (as in Australia’s mining regions up until a year or so ago). The OECD found “higher regional growth when the employment rate, the participation rate and the activity rate improve simultaneously”.

Thirdly, innovation is a popular policy package at the moment in Australia, and one which can take many different forms. The OECD work found that it is indeed important, but that it takes five years and more for increases in innovation activity (incremental innovations as well as new processes and inventions) to translate into measurable economic growth. Innovation, when done well and integrated with human capital and labour markets, can be a real driver for productivity, which is one of the foundations of sustained economic growth.

Lastly, growth is all about getting all the puzzle pieces to work together. It takes more than a good offer in any one of the important parts, and location alone need not be a key determinant. Almost every region I’ve worked with has trumpeted their ‘centrality’ – between two or more major markets and/or their proximity to major transport infrastructure or destination markets. But from a business point of view only a handful of these locations have seen any real private sector investment that capitalises on these supposedly ‘central’ locations. This is partly because from a commercial point of view, some areas are in fact more central than others. And it is also because even if the geographical location is actually a winner, matters of labour availability and skills, and quality of local supplier businesses are also taken into account. Location is but one piece in the puzzle, and from a potential investor’s point of view the more pieces of the puzzle that are connected the better.

The OECD report puts it neatly: “Regions perform well when local actors in a regional innovation system can communicate easily with each other.”

In regions I’ve worked with it is rare for the public sector actors to communicate, let alone coordinate across their different responsibilities. And it is even rarer for the public and private sectors to communicate well. A natural disaster can be the breakthrough needed – but at a price. Even communication and collaboration amongst businesses is rare, though a home-grown business cluster, driven by local business owners looking to get more out of collaborating somehow, is often invisible. So the challenge is to improve cross-actor communication, but not by trying to control that communication, and not by getting in the way of things that might be invisible but working quite well.

The OECD work notes that there is a perception (especially in Europe) that policies should either be pro-equity or pro-efficiency, and that a tradeoff is inevitable. This reflects the political view that some regions need to be helped because they are falling behind (pro-equity) while others, if helped, have the capacity to grow faster and contribute to wider economic growth ambitions (pro-efficiency). But the report found that in fact, given the relatively small and now well-understood set of drivers noted above, national governments can and should promote growth in all regions. Cross regional collaboration seems to help neighbouring regions grow as well. And in fact, the OECD notes, it is not just up to government to drive growth anyway, and it acknowledges that local action is at least as important as the national handout.

“Regions should promote their own growth by mobilising local assets and resources so as to capitalise on their specific competitive advantages, rather than depending on national transfers and subsidies to help them grow.”

These are good lessons for Australia, well researched and well-documented. The findings are particularly timely as our new national government starts to come to grips with the challenges of supporting growth in regional Australia – moving beyond election-winning headline grabbers about ‘developing the north’ to actually influencing and stimulating growth in Australia’s regions.

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