Turns out human capital is vastly more important than trade when it comes to generating regional growth.
Trade and talent are two key factors in the economic growth and development of cities and metro regions.
Harvard University's Michael Porter has distinguished "traded industries" (goods and services that can be traded outside the region where they are produced) from "local industries" (mainly for local consumption and use). Local industries generate lots of employment, but traded industries are the ones that generate real economic dynamism and growth, as The Atlantic's Derek Thompson has noted.
Economists have long identified talent, or what they refer to as human capital, as a central factor in economic growth. The accumulation of skills and their clustering in cities leads to higher rates of innovation, entrepreneurship, productivity, and ultimately growth.
But how do the two work together to shape regional growth? Which of them is more important?
In a Martin Prosperity Institute working paper titled, "Talent versus Trade in Regional Economic Development" [PDF], my colleagues Charlotta Mellander, Ying Sun, and I took a close look. We undertook a detailed statistical analysis to examine the relative roles of these two factors in regional economic growth, the extent to which they work together or separately, and ultimately which of them is more important.
Our research probed the effects of talent and trade on three measures of regional economic development — productivity or economic output per person, wages, and innovation measured as patents per 10,000 people. We looked at talent through the lens of education and work, both in terms of educational attainment (the share of adults that are college grads) and as the share of knowledge, professional, and creative workers. For trade, we employed Porter's distinction of traded vs. local industries. We developed a series of multivariate regression models to isolate the effects of these factors on regional economic development while controlling for other factors like population, density, and high-tech industry, that are likely to come into play.
Talent trumps trade by a large margin when it comes to regional economic development. The talent variables — which we measure both as educational human capital (college grads) and knowledge workers — explain more of the variation in regional economic performance across all three of our measures. In most cases, the trade variable is not significant, when talent is controlled for.A second key finding concerns the interaction of talent and trade. ... When it comes to economic productivity and wages, talent has an approximately equal effect through traded and local industries, and in some cases, even a stronger effect when employed in local industries. The results for innovation are slightly different. Here, talent appears to work primarily through traded industries; this is the case for both the human capital and knowledge workers. Still, in each and every case, the combined variables with talent (measured as education or knowledge-based occupational structures) have a bigger effect on regional economic performance than the trade variable alone. This suggests that talent plays a vital role through its contributions through both industry structures, as well as on its own as a condition for regional economic performance.
When all is said and done the study concludes that: "talent, or what economists refer to as human capital, is the key driver of economic development, having a far greater effect than traded industries."