This paper explores the formation of a new industrial district and its potential impact on market outcomes through the example of the automobile assemblers and suppliers in the southeastern United States. The modern characteristics of the industry necessitate establishment of an intricate network of suppliers, whose criticalness to the production process determines the closeness of their ties and their sites to the core plant. The statistical results from the Toyota plant in Kentucky support this trend. Honda's recent announcement of a new assembly factory in Alabama reinforces perspectives of this work. This new core plant explicitly will take advantage of the now well-established supplier network, while still making the unusual decision to fabricate its most crucially specific component, the engine, in-house at the very same factory as its assembly line (Bradsher, 1999).
However, the creation of other new industrial districts may pose potentially large challenges to market-based solutions, as shown by the game-theoretic model. The combination of substantial pioneer risks and potentially large social spillovers may interact to produce efficiency distortions that hurt not only the local community but also the wooed industry. The two market failures in fact reinforce each other, since the first-mover problem can justify public intervention on its own efficiency merits. But the non-cooperative incentives of regions to attract such core-and-network structures are further increased by the consequent inclusion of the public sector and its social benefit calculus, which may effectively shift not only private but also (poorly specified) social spillover benefits to the prospective plant. Even the latter may be hurt in its own market by establishing itself in an inefficient site, as relative resource prices are skewed by the blizzard of incentives.
In sum, such industrial districts pose distinct challenges to traditional market approaches, as their outcomes may be socially sub-optimal. Such situations suggest possible planning solutions for these intertwined market failures. While inter-related, the public and private aspects of the noted market failures need to be addressed separately given their differing sources. The public incentives problem, whereby each region has an incentive to (over)compete for the focal investment, could be addressed by more cooperative arrangements at the supra-state level. Sites could be coordinated to maximize global efficiency by promoting the site offering the greatest net social benefits. By distributing the net gains to regions under consideration, the cooperative solution could net the broadest gains for all areas.
Yet even given the removal of this public incentives problem, private pioneers are likely to underinvest in promising areas given both the core-plus-network investment costs and advantages of following such pioneering efforts. This private incentives problem could be mitigated by tapered incentive structures to offset the initially high but declining divergences between private and social benefits of investment. Pioneer assemblers are supporting broad supplier networks with minimal scale economies. In addition to the fixed costs of supplier plant investment, the consequent high average costs of components leads to substantially lower private net benefits than the social benefits of the new economic activity in the region. Subsidies to close this gap are thus most justified in these pioneering cases. However, as more assemblers arrive, scale economies of the supplier network take hold, with consequent reductions in the private vs. social benefit/cost gap, as costs are significantly reduced for each ensuing follower.