Globalization, Industrial Policy and Clusters

This paper analyses industrial policy in a high wage open economy hosting an agglomeration consisting of vertically linked upstream and downstream firms. We show that optimal policy towards upstream industries typically differs from the optimal policy towards downstream industries. Internationalisation impacts on the costs as well as on the benefits related to sustaining an industrial agglomeration. Whether maintaining the agglomeration is compatible with a welfare maximizing policy is shown to depend on level of economic integration.