## Abstract

This paper uses data for 255 NUTS-2 European regions over the period 1995-2003

to test the relative explanatory performance of two important rival theories seeking to explain

variations in the level of economic development across regions, namely the neoclassical

model originating from the work of Solow (1956) and the so-called Wage Equation, which is

one of a set of simultaneous equations consistent with the short-run equilibrium of new

economic geography (NEG) theory, as described by Fujita, Krugman and Venables (1999).

The rivals are non-nested, so that testing is accomplished both by fitting the reduced form

models individually and by simply combining the two rivals to create a composite model in an

attempt to identify the dominant theory. We use different estimators for the resulting panel

data model to account variously for interregional heterogeneity, endogeneity, and temporal

and spatial dependence, including maximum likelihood with and without fixed effects, two

stage least squares and feasible generalised spatial two stage least squares plus GMM; also

most of these models embody a spatial autoregressive error process. These show that the

estimated NEG model parameters correspond to theoretical expectation, whereas the

parameter estimates derived from the neoclassical model reduced form are sometimes

insignificant or take on counterintuitive signs. This casts doubt on the appropriateness of

neoclassical theory as a basis for explaining cross-regional variation in economic

development in Europe, whereas NEG theory seems to hold in the face of competition from

its rival. (authors' abstract)

to test the relative explanatory performance of two important rival theories seeking to explain

variations in the level of economic development across regions, namely the neoclassical

model originating from the work of Solow (1956) and the so-called Wage Equation, which is

one of a set of simultaneous equations consistent with the short-run equilibrium of new

economic geography (NEG) theory, as described by Fujita, Krugman and Venables (1999).

The rivals are non-nested, so that testing is accomplished both by fitting the reduced form

models individually and by simply combining the two rivals to create a composite model in an

attempt to identify the dominant theory. We use different estimators for the resulting panel

data model to account variously for interregional heterogeneity, endogeneity, and temporal

and spatial dependence, including maximum likelihood with and without fixed effects, two

stage least squares and feasible generalised spatial two stage least squares plus GMM; also

most of these models embody a spatial autoregressive error process. These show that the

estimated NEG model parameters correspond to theoretical expectation, whereas the

parameter estimates derived from the neoclassical model reduced form are sometimes

insignificant or take on counterintuitive signs. This casts doubt on the appropriateness of

neoclassical theory as a basis for explaining cross-regional variation in economic

development in Europe, whereas NEG theory seems to hold in the face of competition from

its rival. (authors' abstract)

Originalsprache | Englisch |
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Erscheinungsort | Vienna |

Herausgeber | WU Vienna University of Economics and Business |

Publikationsstatus | Veröffentlicht - 1 Nov. 2008 |