The Core-Periphery Model with Forward-Looking Expectations

Abstract

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 analytic tractability. The model can have multiple stable equilibria, so allowing forward-looking expectations would have forced consideration of the very difficult--perhaps even intractable--issues of global stability in non-linear dynamic systems. This paper's main contribution is to present a set of solution techniques--partly analytic and partly numerical--that allow us to consider forward-looking expectations. These techniques reveal a startling result. If quadratic migration costs are sufficiently high, allowing forward-looking behavior has no impact on the main results, so static expectations are truly an assumption of convenience. If migration costs are lower, however, forward-looking behavior creates history-vs-expectations considerations. In this case, agglomeration can be a self-fulfilling prophecy.

JEL Classification: F1, F2, R1