Human Capital Externalities and Growth of High- and Low-Skilled Jobs

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1 DISCUSSION PAPER SERIES IZA DP No Human Capital Externalities and Growth of High- and Low-Skilled Jobs Jens Suedekum February 2006 Forshungsinstitut zur Zukunft der Arbeit Institute for the Study of Labor

2 Human Capital Externalities and Growth of High- and Low-Skilled Jobs Jens Suedekum University of Konstanz and IZA Bonn Disussion Paper No February 2006 IZA P.O. Box Bonn Germany Phone: Fax: Any opinions expressed here are those of the author(s) and not those of the institute. Researh disseminated by IZA may inlude views on poliy, but the institute itself takes no institutional poliy positions. The Institute for the Study of Labor (IZA) in Bonn is a loal and virtual international researh enter and a plae of ommuniation between siene, politis and business. IZA is an independent nonprofit ompany supported by Deutshe Post World Net. The enter is assoiated with the University of Bonn and offers a stimulating researh environment through its researh networks, researh support, and visitors and dotoral programs. IZA engages in (i) original and internationally ompetitive researh in all fields of labor eonomis, (ii) development of poliy onepts, and (iii) dissemination of researh results and onepts to the interested publi. IZA Disussion Papers often represent preliminary work and are irulated to enourage disussion. Citation of suh a paper should aount for its provisional harater. A revised version may be available diretly from the author.

3 IZA Disussion Paper No February 2006 ABSTRACT Human Capital Externalities and Growth of High- and Low-Skilled Jobs * In this paper I analyze the impat of human apital on loal employment growth for the ase of West Germany ( ). I find robust evidene that skilled ities grow faster than unskilled ones, but this need not indiate loalized human apital externalities are at work. A large initial share of high-skilled workers signifiantly redues subsequent growth of highskilled jobs. The observed positive impat on total employment growth is, therefore, due to the fat that low-skilled jobs grow faster than high-skilled jobs deline in initially skilled ities. This evidene is in line with omplementarities among skill groups as the major ausal link between human apital and employment growth. It hallenges theories of self-reinforing spatial onentration of high-skilled workers due to strong loalized spillovers. JEL Classifiation: R11, O40 Keywords: human apital, loal employment growth, externalities Corresponding author: Jens Suedekum University of Konstanz Fah D Konstanz Germany jens.suedekum@uni-konstanz.de * I greatly benefited from disussions with Gerhart Glomm, Katja Wolf and Christian Wiermann. All remaining errors and shortomings are solely my responsibility.

4 1) Introdution Previous researh in urban eonomis has found a robust positive orrelation between a ity s initial employment share of ollege eduated workers and subsequent ity employment growth (Glaeser et al., 1995; Simon, 1998, 2004; Simon and Nardinelli, 2002; Glaeser and Saiz, 2004; Shapiro, 2006). Less is known about why skilled ities grow faster than unskilled ones. Shapiro (2006) distinguishes three explanations. The first and most obvious one is omitted variable bias. Human apital may be orrelated with other ity harateristis that are left out of the regression, but whih ausally drive employment growth. One suh feature may be the loal industry struture. A ity might strive not beause it hosts a skilled body of employees, but beause it is speialized in booming industries that use human apital intensively (Simon, 2004). Seond, more eduated ities might generate onsumption amenities, or quality of life, thereby attrating more individuals subsequently (Shapiro, 2006). Finally, the positive orrelation may be due to the fat that human apital raises loal produtivity. Glaeser and Saiz (2004) argue that produtivity is probably the most relevant argument. The literature has not yet ome to grips, however, with the mehanism underlying the link between loal human apital and produtivity. Some reent papers that address the impat on loal wages have put forward two explanations: externalities and imperfet substitutability of input fators. Total fator produtivity may depend endogenously on the human apital share (as in Luas, 1988), and the soial returns exeed the private returns to eduation. This theory is underlying the seminal study by Rauh (1993), who finds that an inrease in average shooling by one year at the ity level inreases wages of workers with unhanged eduation by 3 to 5 per ent. Instead of diret tehnologial spillovers, there may alternatively be peuniary externalities arising from job searh (Aemoglu, 1996) or from endogenous market size effets (Krugman, 1991). However, human apital an raise wages above the private returns to eduation even in the absene of any spillover or market-mediated onentration fore. It may simply reflet the imperfet substitutability of input fators that arises also in a straightforward neolassial model with onstant returns to sale and perfet ompetition. Poliy impliations ruially hinge on whether the observed positive relation is due to externalities or omplementarities, beause only the former are a standard soure of market failure. In the literature that uses wages as the dependent variable, Moretti (2004a) and Cione and Peri (2006) have suggested strategies to disriminate between these two possibilities. Reent surveys are provided by Moretti (2004b) and Duranton (2004). 2

5 To the best of my knowledge there have been no attempts to disentangle whether omplementarities or externalities are the main underlying ause for the link between human apital and loal employment growth. This is the major goal of the present paper. Similar to the approah taken by Moretti (2004a), who looks at the impat of the loal human apital share on wages of different eduation groups, I analyze its impliations for subsequent loal growth of high-skilled and low-skilled jobs. One would surely expet growth of low-skilled jobs in a ity to depend positively on the initial share of high-skilled workers. This arises as a matter of omplementarities between eduation groups alone, and is reinfored by external effets. With respet to high-skilled jobs, however, employment growth should be higher in ities where eduated workers are initially relatively sare if not some human apital spillover, or some other loal onentration fore is ountervailing this tendeny. The effet of the initial human apital share on employment growth of high-skilled jobs is, therefore, used to disriminate between the two broad sets of theories. 1 Another ontribution of this paper is that I provide novel evidene for another ountry, Germany ( ), whereas the previous literature on eduation and employment growth has almost exlusively foused on US ities and metropolitan areas. 2 I first report a robust positive impat of the initial employment share of high-skilled workers on subsequent total employment growth at the loal level. Controlling for the ity s industry and firm size struture hanges the effet of human apital quantitatively, but not the general piture that skilled ities tend to grow faster on aggregate. These results orroborate earlier findings for the US, whih suggests that European eonomies behave similarly in this respet. Differentiating between skill groups, I find that the initial human apital share is strongly positively related to subsequent growth of low-skilled jobs (as expeted). For high-skilled employment growth, however, the effet is signifiantly and robustly negative. The positive impat on total employment growth is, therefore, due to the fat that low-skilled jobs grow faster than high-skilled jobs deline in initially skilled ities. These empirial findings suggest the distribution of human apital aross spae should beome more equal over time, and this impression is indeed verified by the data. The average national employment share of university graduates in Germany has strongly inreased during the observation period (from 3.7 % in 1977 to 9.5% in 2002). But at the same time, regional human apital shares have tended to beome more equal. This seems to ontrast the reent US 1 It is beyond the sope of this paper to differentiate between more detailed theories of human apital externalities (see Duranton and Puga, 2004 on this issue), or between a diret spillover and other potential onentration fores for high-skilled workers (like peuniary externalities due to labor market pooling or endogenous market size effets). 2 An exeption is Simon and Nardinelli (1996), who look at growth of British ities between 1861 and

6 experiene, beause Moretti (2004b) points out that the distribution of human apital aross MSAs have tended to beome more unequal during the 1990s. My results ast doubts on Silion valley-type theories that imply a self-reinforing spatial onentration of high-skilled workers due to strong loalized human apital externalities. However, spillovers need not be absent ompletely. A first onern omes from the fat that I measure effets on employment growth, not on produtivity diretly. Human apital might stimulate tehnologial progress at the loal level, but this need not always translate into employment gains. Produtivity growth an also be labor saving if goods demand is suffiiently inelasti, and the impat on employment is smaller the lower labor supply elastiity (Cingano and Shivardi, 2004; Combes et al., 2004). Unfortunately this onern an not be addressed in this paper, due to a lak of loal produtivity data. Seond, even if produtivity raises employment, my findings do not imply that spillovers are zero, but rather that (potential) spillovers are not strong enough to ompensate a parallel neolassial onvergene tendeny of loal human apital shares. Given this unertainty if externalities are absent or only weak, I adopt an extended approah and look for evidene on potential ross-industry human apital spillovers. I move down from total ity employment growth to the performane of different industries at the loal level. For advaned servie and modern manufaturing industries I find some evidene that is onsistent with ross-industry spillovers, beause high-skilled job growth is spurred by the loal stok, and the degree of speialization of the surrounding human apital. Nonetheless, within these industries I still find a dominane of neolassial onvergene fores. The rest of this paper is organised as follows. In setion 2 I derive a simple theoretial model that guides the empirial researh. Setion 3 introdues the data set and provides a desriptive overview of human apital in German ities and industries. In setion 4 I present the empirial speifiation, and the regression results for ity employment growth. Setion 5 turns to the growth performane of loal industries. Some onluding remarks are provided in setion 6. 2) Theory The theoretial framework builds on Moretti (2004a) and serves to illustrate that the impat of initial human apital on subsequent high-skilled employment growth may be used to shed some light on the underlying auses of the link between human apital and total ity employment growth. Suppose prodution of some homogenous and freely tradable good in ity ( Y ) is desribed by the following Cobb-Douglas funtion 4

7 Y A L H α 1 α = ( ) ( ) 0 a 1 < < (1) where and prie A is a ity-speifi produtivity parameter, L is the fator input of low-skilled labor, H is the input of high-skilled labor. There is perfet ompetition, so that the produt p Y is taken as given by firms and normalized to one. Both input fators are paid aording to their marginal produt, whih implies that L s log( w ) = log ( α) + log( A) + (1 α)log 1 s H s log( w ) = log ( 1 α) + log( A) αlog 1 s (2) (3) where s H ( L H ) = + is the ity s share of high-skilled workers. I allow total fator produtivity A to depend endogenously on s. In partiular, I assume ( s ) log( A ) = log( ϕ ) + γ log 1+ (4) where γ 0 denotes the strength of the (potential) human apital externality, and ϕ is an idiosynrati ity effet that aptures loal amenities (like weather et.). These harateristis may be orrelated with loal human apital (e.g., the skilled prefer to live in warm ities), whih suggests that ontrolling for time-invariant ity features may be important. Using (4) in (2) and (3), it is straightforward to ompute that L log( w ) 1 α γ = + s s (1 s ) 1+ s H log( w ) α γ = + s s (1 s ) 1+ s (5) (6) Even in the absene of a spillover ( γ = 0 ) the wage of low-skilled workers in ity ( w ) depends positively on human apital intensity s. This is aptured by the first term in (5) and arises solely as a matter of imperfet substitutability of input fators. A positive human apital L 5

8 externality ( γ > 0 ) reinfores this effet, whih is represented by the seond term in (5). Conversely, the impat of an inrease in s on the high-skilled wage H w is ambiguous and depends on the strength of the externality γ relative to the neolassial supply effet that is represented by the first term in (6). This effet states that wages of high-skilled workers should be low where human apital is relatively abundant. 3 As the present paper analyzes employment growth rather than wages, I assume that there is a long-run relation between these two variables. Without presenting the detailed mirofoundations for this argument by modelling endogenous migration or eduation hoies, it seems plausible to posit that loal growth of any job type should be inreasing in the respetive loal wage rate. In partiular, high-skilled employment growth should be strong in areas with a relatively high return to human apital, either beause skilled migrants are attrated to these ities, or beause of a higher inentive for the young loal population to invest in eduation (see also Barro and Sala-i-Martin, 1999: h. 9). Absene of a spillover ( γ = 0) then implies, that long-run growth of high-skilled jobs is stronger in areas with a low initial human apital share, other things being equal. With γ > 0, the diretion of the impat depends on whether the externality is strong enough to yield higher skilled wages in human apital abundant areas. This point an be illustrated by omparing the skilled wage in two ities i and j. Using eq. (3), one obtains H H s s i j log( wi ) log( wj ) = γ log( 1 si) log( 1 sj) + + α log log 1 s i 1 s j ( ϕi) log ( ϕj) + log (7) Skilled labor moves from ity j to ity i if eq. (7) is positive, and vie versa. Sine we have perfet prie equalization in this model, nominal wages must be equalized aross ities in the long run. 4 H H Hene, log( w ) log( w ) = 0, or i j 3 As shown by Moretti (2004a), the average ity wage s w H + (1-s )w L an be inreasing in s beyond the inrease due to the private returns to eduation, even with γ=0. Moretti suggests analyzing the impat of human apital intensity on wages of high-skilled workers, beause a positive oeffiient would learly imply a spillover. Using US data he atually finds evidene that wages of ollege eduated workers rise with the loal human apital share. In terms of the above model, this suggests not only that an externality exists (γ>0), but that it is strong enough to render loalized inreasing returns to human apital, γ>α(1+s )/s (1-s ). An alternative strategy ( onstant omposition approah ) has been suggested by Cione and Peri (2006), who reeive the onfliting onlusion that there is little evidene for a loalized human apital externality in the US. 4 In an extended model with non-tradable goods, real wages must be equalized. Shapiro (2006) uses the impat of human apital on loal housing pries to disentangle between produtivity and onsumption amenities. He finds signifiant impats of both hannels. In this paper we onentrate on, and further disentangle the former. 6

9 1 γ 1 1+ i 1 i = 1+ j 1 ϕ j s i s j γ ( s ) ϕ ( s ) α α i, j (8) The first (seond) term on either side of the equation is inreasing (dereasing) in s, = i, j, and depits the spillover and the neolassial effet, respetively. Abstrating from exogenous ity differenes ( ϕi = ϕ j), eq. (8) implies that si = sj = s* i, j is always a long-run equilibrium. This equilibrium s * is unique and globally stable if γ = 0, hene one should observe unonditional onvergene of loal human apital shares over time. Matters are different if a suffiiently strong external effet exists. For simpliity, I fous on the evolution of the human apital share s 1 in a small ity i = 1 and suppose that the skill intensity s j in all other ities j is onstant and given by the national steady state value s *. Substituting sj = s* in (8) and imposing ϕ 1 = ϕ j, it is lear that s 1 = s* must be an equilibrium onfiguration for ity 1. But this equilibrium is not stable with γ 0. Figure 1 graphs the wage disparity ( H H* w1 w ) as a funtion of s 1 for different values of the externality γ. For low values of γ (inluding γ = 0 ), s1 = s* is unique and globally stable. The share s 1 will be inreasing (dereasing) over time if the initial human apital share is below (above) s * (panel a). As the strength of the externality inreases, multiple equilibria arise. Depending on the initial onditions wage equalization may be obtained at 0< s s* < 1, and these interior equilibria may be loally unstable (as s in panel b) or stable 1 ( s in panel b, s and s in panel ). In partiular, the initial human apital share s 1 an be positively related to its subsequent growth rate if ity 1 onverges to a long-run equilibrium s* s* 1 >, as the equilibrium s in panel (). Finally, panel (d) illustrates the most extreme onfiguration where externalities are strong enough to render globally inreasing returns to human apital in ity 1. To sum up, long-run growth of high-skilled jobs will depend positively on the initial loal share of high-skilled workers if a strong human apital externality exists. In ase of a negative effet of the initial human apital share on high-skilled job growth I an onlude that some potential spillover is not strongly pervasive. However, a negative oeffiient an not be used to rejet the existene of a human apital externality ompletely, beause it might just not be strong enough to overturn the neolassial onvergene tendeny (as in panel a). In the empirial analysis, I do not aim to identify the quantitative size of a potential spillover γ. I 7

10 rather analyze if the evidene is in line with theories that imply a self-reinforing proess of spatial human apital onentration due to strong loalized (tehnologial or peuniary) externalities, or if the evidene suggests a onvergene of human apital shares at the loal level. Figure 1: Spillover strength and equilibrium human apital hare s 1 (a) γ=0 or low γ (b) intermediate γ s* s* s s s 1 () high γ (d) very high γ s s s* s 1 s* 3) Data and desriptive overview For this study I use offiial loal employment data provided by the German Federal Employment Ageny (Bundesagentur fuer Arbeit). This highly reliable offiial information overs the entire territory of West Germany (exluding Berlin), and the omplete population of full-time employment relationships subjet to soial seurity (i.e. without ivil servants and self-employed individuals) between 1977 and Employment is observed on the spatial 8

11 sale of 326 NUTS3-distrits ( Landkreise and kreisfreie Städte ), whih inludes urban and rural areas. Data refer to the workplae loation, and is not subjet to any ensoring. Within eah region employment in 28 different industries an be distinguished, enompassing the full range of eonomi ativities. For eah loal industry not only the total employment level is known, but also the employment shares of three firm size lasses (less than 20, less than 100, or above 100 employees), and most important for this study of three qualifiation groups. One an distinguish individuals without any voational qualifiation (low-skilled workers), ompleted apprentieship (medium-skilled workers), and ompleted university eduation (high-skilled workers). Total ity employment is obtained by aggregating over all loal industries. Human apital intensity is measured by the employment share of high-skilled workers in ity. Sine this paper presents novel evidene for Germany, I start with some desriptive statistis. Figure 2 plots the development of total full-time employment in West Germany (1977=1.00) and the respetive development of high-skilled employment. Whereas the total number of full-time jobs has almost remained flat over the observation period (at about 16.2 million), the number of high-skilled jobs has more than doubled to roughly 1.5 million in Figure 2: Total versus high-skilled employment (1977=1.00) high-skilled empl. total empl. At the same time, there have been marked differenes in the level, and in the development of the human apital intensity aross distrits and industries. Starting with the setoral level, table 1 reports total employment and average human apital share aross industries in 1977 and 2002, respetively, as well as the long-run industry employment growth rate. The table reveals a lear trend of strutural hange. Traditional primary and manufaturing setors 9

12 disappeared rapidly, and most servie industries (notably the business-related servies) grew signifiantly faster than West Germany overall. 5 Table 1: Human apital intensity and total employment aross industries employm. Industry Total Human Total Human growth employment ap share employment ap share rate Business-Related Servies 517, ,792, Health Care & Soial Assistane 776, ,335, Soial Servies 225, , Agriulture & Forestry 103, , Leisure-Related Servies 163, , Hotels & Gastronomy 296, , Eduation 306, , Finane & Insurane 582, , Information & Transportation 770, , Syntheti Materials 294, , Motor Vehiles 909, , Commere 2,057, ,135, Offie Supplies, IT & Optis 1,418, ,198, Mahinery 892, , Utilities & Eletri Industry 200, , Paper & Printing 331, , Publi Setor (without iv.serv.) 1,021, , Food & Tobao 584, , Household-Related Servies 162, , Chemial Industry 561, , Building & Constrution 1,474, ,062, Wood-working 373, , Primary Metal Manuf. 837, , Non-metalli Mineral Mining 208, , Glass & Ceramis 144, , Musial Instrum., Jewellery, Toys 51, , Mining 227, , Leather & Apparel 650, , TOTAL 16,145,557 16,282, (weighted) average The high employment growth rate of the (relatively small) agriultural setor seems surprising. It is due to the fat that many formerly self-employed farmers formally beame dependent employees and thereby part of the soial seurity system over the observation period. 10

13 The range of human apital intensities in 2002 goes from below one per ent in hotels & gastronomy and the household-related servies to above 30 per ent in the eduation setor. The orrelation between initial skill intensity in 1977 and the industry s long run employment growth rate is 0.493, whih suggests that skill intensive setors tended to grow faster. Moving to the regional level, in table 2 I report the five most and the five least human apital intensive distrits in the years 1977 and 2002, as well as the distrits with the best and the worst employment growth performane. Human apital shares differ by a fator larger than 10 aross distrits. The smartest German ity is Erlangen, where the headquarters of Siemens are loated. Metropolitan areas like Munih, Stuttgart, Frankfurt and Hamburg also have high employment shares of skilled workers. An interesting ase is Wolfsburg, the loation of the headquarters of Volkswagen. This ity belonged to the least skilled ities in 1977, but then saw a rapid inrease in the human apital intensity over the years (ranked 34 th in 2002). Turning to employment growth, Munih and its surroundings (e.g., Freising) is a fast growing region, whereas the traditional oal and steel dominated distrits from the Ruhr area (e.g. Duisburg, Gelsenkirhen) have experiened the most rapid deline. Table 2: Human apital share and employment growth, 1977 and Employm. growth (77-02) Rank human human Distrit apital Distrit apital Distrit % 1 Erlangen Erlangen Freising Outer-Munih Darmstadt Outer-Munih Darmstadt Inner-Munih Vehta Frankfurt a.m Stuttgart Cloppenburg Inner-Munih Outer-Munih Main-Taunus-K Cohem-Zell Shwandorf Wunsiedel i.f Regensburg Südwestpfalz Duisburg Neustadt a.d.w Freyung-Grafenau Gelsenkirhen Wolfsburg Straubing-Bogen Südwestpfalz Südwestpfalz Ansbah Pimasens Finally, as mentioned already in the introdution, regional endowments of high-skilled labor have tended to onverge over the observation period. Figure 3 illustrates the variation oeffiient of human apital shares aross all distrits (based on the weighted standard deviation). By and large there has been a steady deline in ross-distrit dispersion of loal human apital shares that is somewhat flattening sine the mid-1990s. Together with the general tendeny of skill intensities to inrease over time, figure 3 suggests that high-skilled 11

14 employment grew over-proportionally in distrits with a relatively small initial human apital share. This impression will be verified in the statistial analysis below. Figure 3: Variation oeffiient of loal human apital shares (N=326) ) City employment growth: empirial speifiation and results I regress long-run distrit employment growth on loal base year harateristis. As a first step I will analyze the ross-setion of total employment growth rates (setion 4.1). In order to disriminate between externalities and omplementarities I will then turn to growth of highskilled and low-skilled jobs, respetively, as the dependent variable (setion 4.2). Finally, I use a panel setup to address the possibility of unobserved heterogeneity aross loal areas that may be orrelated with human apital (setion 4.3) Cross-setion of total ity employment growth In the ross-setion analysis, I use growth rates for the period as the dependent variable (by subtrating the log employment level in ity in 1985 from the respetive loglevel in 2002). To address issues of reverse ausality, all ontrol variables are omputed for the year It seems implausible to argue, e.g., that skilled workers have moved to a partiular ity in 1977 beause they expeted growth to be strong from 1985 onwards, so I am onfident that endogeneity problems are avoided. 6 I have experimented with different time periods for growth rates. To avoid outlier problems for single years I have also omputed growth rates by using three year averages for the base and the end period. The results were very similar to those reported here. 12

15 The entral ontrol variable is the initial employment share of high-skilled workers in ity in In order to analyze whih skill group is partiularly related to employment growth I also inlude the share of medium-skilled employees. As additional ontrols I use the total ity employment level, whih aptures possible misspeifiation of the model that is written entirely in fator shares. As the data set entails urban and rural areas, I ontrol for (log) employment density. 7 Furthermore, I inlude firm size struture, beause a glane at orrelation tables suggests that the employment share in large firms is strongly positively orrelated with the high-skilled employment share (ρ=0.550), but strongly negatively with employment growth (ρ= 0.502). The previous literature on human apital and ity growth has usually not inluded firm size strutures, probably due to a lak of data. This seems to be important, however, as the regression might otherwise suffer from an omitted variable bias. 8 Finally, reminisent of the debate on eduation versus industry struture, I ontrol for initial setoral omposition. One ould exploit the variation of employment in 28 different industries, but in order to limit the number of results I will only report estimations where I ontrol for the employment share of three broad industrial lasses. 9 Estimation is done by using OLS with robust standard errors, beause the Breush-Pagan test indiated potential heteroskedastiity problems (with the null of spherial disturbanes rejeted at 0.02 onfidene level in the most omprehensive speifiation), whih may be due to the fat that the dependent variable is a growth rate of distrits with quite heterogeneous initial size. Table 3 reports the results. The impat of the initial employment share of high-skilled workers is signifiantly positive in all speifiations. The initial share of medium-skilled employees also signifiantly raises total ity employment growth, but the impat is onsiderably smaller than for high-skilled employees (see estimation 2). The positive effet of human apital is robust to the inlusion of loal firm size struture and industrial omposition. Comparing the baseline estimation (2) with speifiation (3), it beomes obvious that an omission of firm sizes leads to a downward bias in the oeffiient for human apital intensity ( versus ). The reason is that university graduates are over-represented in large firms, but a high loal employment share in large firms per se redues growth signifiantly ( ). 7 To ompute employment density, I divide the total employment level in ity by area size measured in square kilometres (provided by the German Federal Statistial Offie). 8 Another study that emphasises the importane of firm sizes for regional employment growth is Combes et al. (2004), who have no information on qualifiation strutures, however. 9 Estimations that inlude all 28 industry employment share lead to similar results for the impat of human apital. For the definition of the broad groups of industries, refer to the appendix. Estimation results are robust to small re-definitions of these setoral lassifiations. 13

16 Table 3: Regression results total ity employment growth Cross-setion analysis. t-value in parentheses. signifiane levels: ***) 1%, **) 5%, *) 10%. Control variables for year

17 Analogously, omparing (2) and (4), an omission of industry omposition leads to an upward bias in the estimate for human apital ( versus ), beause high-skilled labor is positively orrelated with booming industries. The impat of human apital remains qualitatively robust, however, whih suggests that the positive orrelation between highskilled labor and ity growth is not spurious. The most omprehensive speifiation (5) shows a positive effet of the initial human apital share that is onsiderably larger as ompared to previous findings for the US. My findings suggest that an inrease of the employment share of high-skilled workers by one perentage point raises loal employment growth by roughly 2.37 per ent. 10 Glaeser and Saiz (2004), who also use a log-linear speifiation and regress population growth of US metropolitan areas on the initial population share of inhabitants with (at least) a Bahelor s degree obtain oeffiients that are onsiderably smaller (between 0.2 and 0.5 in regressions without loal fixed effets). Apart from several details (they use population, whereas I use employment data; their time period of 10 years is shorter than the one I use; et.), it appears that one important reason for the large quantitative differene is the definition of what is a highskilled worker. The group of high-skilled workers in my data set onsists of university graduates, who have obtained a diploma or a omparable degree, whih is atually loser to a Master s than to a Bahelor s. My group of medium-skilled workers has ompleted the German system of voational training ( Faharbeiter ). As the post-seondary eduation for this group usually exeeds three years, this group might also be regarded as skilled workers from an applied perspetive. When university graduates and medium-skilled workers are lumped together in one skill group that appears better omparable to a Bahelor s degree, I obtain a oeffiient of ** (t-value 2.44) when redoing estimation (5), whih is perfetly in line with the findings of Glaeser and Saiz (2004). The finer deomposition of high-skilled workers in my data set suggests that the positive impat of human apital on ity growth is mostly driven by workers with formal eduation beyond the Bahelor s level. Turning to the other oeffiients, I find a negative relation between initial employment density and subsequent employment growth, as well as a negative impat of large firms. The negative impat of density suggests that the German eonomy is subjet to a long-lasting proess of spatial employment de-onentration (or, sub-urbanization), as metropolitan areas tend to loose employment shares to surrounding distrits. For the initial setoral omposition, I find a positive impat of the initial employment share in modern manufaturing industries. 10 The standard deviation of distrit growth is around 0.14, and the standard deviation of the high-skilled employment share is around Thus, an inrease in the high-skilled employment share by one standard deviation raises subsequent employment growth by more than one third of a standard deviation. 15

18 4.2. Employment growth by skill group In Germany, a ity s initial human apital intensity is robustly positively related to its subsequent total employment growth. This result is qualitatively and quantitatively in line with previous findings for the US. What is the ausal link underlying this positive relationship? Glaeser and Saiz (2004) argue that the main hannel is produtivity. But it is unlear whether human apital externalities are pervasive at the loal level, or if the positive relation is mainly due to omplementarities that are onsistent with a neolassial prodution funtion not exhibiting any spillover. As explained in setion 2, I analyze growth separately for high-skilled and low-skilled jobs to disriminate between externalities and omplementarities. More preisely, I re-estimate the most omprehensive speifiation of the previous rosssetion analysis (olumn 5 in table 3), and exhange the dependent variable with the growth rate of high-skilled (low-skilled) jobs, or respetively with the growth rate of the loal employment share of high-skilled workers between 1985 and As before, all ontrol variables are omputed for the year Table 4 shows the results. Columns (1) and (2) refer to growth of low-skilled jobs, and for the ombined group of low- and medium-skilled jobs. Column (3) refers to the growth rate of high-skilled jobs, and olumn (4) to the growth rate of the loal human apital share. This speifiation is most losely related to the theoretial model from setion 2. The entral finding of this study an be summarized as follows: Whereas the initial share of high-skilled workers signifiantly raises growth of low-skilled and (to a somewhat lesser extent) of medium-skilled jobs, it signifiantly redues growth of high-skilled jobs ( ). Inter alia, the intial level and the subsequent growth rate of the loal human apital share are signifiantly negatively related ( ). High-skilled jobs have grown stronger in loal areas with low initial human apital intensity. Employment shares of high-skilled workers aross spae should, therefore, beome more equal over time. This is onsistent with the desriptive evidene as reported in figure 2 above. This evidene is in line with omplementarities among skill groups. Low-skilled workers benefit from the loal presene of human apital. There also is a positive, yet smaller effet of medium-skilled employees on subsequent low-skilled employment growth (0.8896), whereas the effet on high-skilled employment growth is insignifiant. I even find a (signifiantly) negative impat on the growth rate of the human apital share ( ), whih would suggest that high- and medium-skilled workers are substitutes rather than omplements. This impression does not turn out to be robust to the inlusion of fixed effets, however. 16

19 Table 4: Regression results ity employment growth by skill groups ( ) (1) (2) (3) (4) Low-skilled empl. growth Low-+ mediumempl. growth High-skilled empl. growth Growth human apital share High-skilled employment share *** (4.37) *** (2.59) ** (-2.04) *** (-5.37) Medium-skilled Employment share *** (3.64) ** (2.44) (-0.12) * (-1.87) log (total loal employment level) *** (3.14) (0.89) (0.41) (-0.24) log(empl.density) ** *** *** (-2.44) (-6.24) (-0.41) (3.06) Large firms employment share *** (-5.99) *** (-3.95) *** (-2.62) (-1.06) advaned servies employment share (-1.40) (-0.95) (0.73) (1.32) basi servies employment share *** (2.86) * (1.77) (-0.95) ** (-2.47) modern manufaturing employment share ** (2.01) *** (4.45) *** (3.82) ** (2.00) Constant term *** *** *** (-3.92) (0.13) (4.09) (5.24) NOBS R t-value in parentheses. signifiane levels: ***) 1%, **) 5%, *) 10%. Control variables for Panel analysis The results have relied on a ross-setion approah so far. However, human apital might proxi for unobserved loal harateristis that drive employment growth. To address this issue, I make use of the longitudinal struture of the data set and turn to panel estimation with fixed effets in this subsetion. I split up the observation period into three parts, and ompute employment growth rates for the following periods: , and Control variables for the three periods are, respetively, omputed for 1977, 1985 and Using independent variables with a suffiiently long time lag again ameliorates onerns of reverse ausality. 11 This proedure gives three observations for eah loal area, and thus a total number of = 978 observations. 11 The results are not sensitive to the hoie of these partiular time periods. I have experimented also with different base years, and other growth periods (in partiular, I have also used panels where the total observation period is split up in two or in four time periods). The results are qualitatively similar. 17

20 Estimation is done separately for total ity employment growth, growth of low-skilled jobs, growth of high-skilled jobs, and the growth rate of the loal human-apital share as the dependent variable. Table 5 shows the results for the panel estimations with robust standard errors, where I inlude fixed effets for eah loal area and time period. 12 The same set of ontrol variables as in the previous subsetion was used, exept that total ity employment level now has to be dropped due to ollinearity with density as area size in km 2 does not vary over time. For brevity, I only report results for the impat of the employment share of highskilled and medium-skilled workers, beause the other estimated oeffiients (density, large firms, industrial omposition) do not hange qualitatively. Table 5: Panel analysis ( , , ) Fixed effets estimation (1) (2) (3) (4) Total empl. growth Low-skilled empl. growth High-skilled empl. growth Growth human apital share High-skilled employment share (0.53) * (1.81) *** (-5.46) *** (-6.61) Medium-skilled Employment share (0.65) *** (2.74) (-0.13) (-0.46) Other ontrols log(emp.density), empl.share in large firms, empl. share in advaned servies, basi servies, modern manufat., onstant term. loal area fixed effets YES YES YES YES time period fixed effets YES YES YES YES NOBS R t-value in parentheses. signifiane levels: ***) 1%, **) 5%, *) 10%. Control variables for 1977, 1985, 1993 (depending on period) Controlling for fixed effets renders insignifiane of the relation between the initial human apital share and total employment growth, but it does not affet the main result that was onveyed in the ross-setion analysis. The initial employment share of high-skilled workers 12 This is the stritest formulation of the fixed-effets model. Identifiation of the impat of human apital omes solely from the hange in the high-skilled employment share within a distrit. In their analysis on US ities and MSAs, Glaeser and Saiz (2004) argue that this approah is asking a great deal from the data, beause there is persistene in human apital over time and the loal fixed effets eliminate most of the variation of human apital aross spae. A weaker version would only use fixed effets for states (Bundesländer), or area types. I have experimented with these regional fixed effets as well, but opted for the stritest form of fixed effets, as this gives most onfidene on the robustness of results. 18

21 is signifiantly positively related to growth of low-skilled jobs (1.2396). The impat on subsequent growth of high-skilled jobs ( ) and, respetively, on growth of the human apital share ( ) remains signifiantly negative. Quantitatively, the inlusion of fixed effets works in the expeted diretion with respet to the impat of the high-skilled employment share. In panel estimations without fixed effets (not reported) I reeive signifiant and onsiderably larger positive oeffiients in the estimations for total and low-skilled employment growth, and smaller negative (yet still signifiant) oeffiients in the regression for growth of high-skilled employment. Idiosynrati ity effets seem to positively ovary with human apital. Hene, not ontrolling for the fat that ertain loations seem to onstantly attrat high-skilled workers by inluding fixed effets leads to an overstatement of the impat of human apital on total and low-skilled employment growth, and respetively to an understatement of the equilibrating fores of loal human apital shares. Results are not driven by the fat that my data set inludes small ities and loal areas with rural harater. Re-doing the fixed effets estimation for the sub-sample of large German ities 13 yields a oeffiient of ** (t-value: -2.61) for the impat of the initial human apital share on its subsequent growth rate. Equilibrating fores appear to be weaker among large ities than among West German loal areas overall (where the respetive effet has been 5.016***), but the results remain qualitatively unaffeted. In sum, neither the ross-setion nor the longitudinal analysis lend empirial support to strongly pervasive loalized human apital externalities. However, as explained above, one should not onlude that spillovers are entirely rejeted by these empirial findings. They might atually exist, but they are not strong enough to ompensate the neolassial onvergene tendeny of loal human apital shares. 5) Growth of loal industries: empirial speifiation and results In this final setion I move the unit of observation from loal areas down to the single loal industries. This allows analyzing if the impat of human apital on employment growth may have a ross-industry omponent. Speifially, I relate the employment growth rate of some industry i loated in ity to the own-industry share of high-skilled workers in (i,), and to the human apital share of the other industries in the same ity. 13 Large ity = area type 1 of the BBR-lassifiation sheme of German distrits, 39 observations per period. 19

22 I stik to the panel setup desribed in setion 4.3. For the three time periods under onsideration ( , , ), I ompute the growth rate of total, lowskilled and high-skilled employment, and of the human apital share for every loal industry (i,). These growth rates are, respetively, used as the dependent variable. As loal industries are sometimes very small, growth rates exhibit exorbitant jumps following small absolute employment hanges. 14 This errati noise in the data will yield R 2 levels that are onsiderably smaller than before, in partiular for regressions referring to high-skilled employment growth. Furthermore, heteroskedastiity problems are exaerbated, so that the use of robust standard errors has to be ontinued. As right-hand side variables I use the standard set of time-lagged ontrols, i.e. (log) employment density of ity, the employment share in large firms in loal industry (i,), and the own-industry employment share of high- and medium-skilled workers in (i,). As the first new explanatory variable, I ompute the aggregate share of high-skilled workers in ity minus the respetive own-industry human apital share, aggregate ity human apital i, high skilled emp i, = (9) high skilled emp i, The theoretial rationale for inluding this variable hinges on the presumption that fator markets are not perfetly integrated aross industries at the loal level. Suppose, for the sake of the argument, that there is no setoral mobility of workers. Aording to the neolassial model developed above, high-skilled job growth in any partiular industry should be stronger where returns to human apital are relatively high, hene, where high-skilled labor is initially relatively sare. This gives rise to the expetation that the initial own-industry human apital share should be negatively related to its subsequent growth aross loal industries if γ is weak. At the same time, the relative sarity of, and the returns to high-skilled workers in one industry should be unrelated to the human apital intensity of other industries when there is zero setoral mobility. 15 Now suppose there is a loalized human apital externality that ours between industries, and onsider the following example. With un-integrated loal 14 For example, 597 out of 9128 loal industries in the year 1977 had less than 20 full-time employees in total. In 1959 ases there was not a single high-skilled employee. 15 One an tell reasonable stories why this oeffiient ould be negative. E.g., if fator markets are integrated aross industries, the returns to human apital in every industry should be generally low in initially skilled ities. High-skilled job growth in loal industry i, ould then negatively depend on the ity s aggregate human apital share aording to neolassial presumptions, beause the large supply of high-skilled workers drives down the loal returns to human apital. Labor poahing (see Combes and Duranton, 2006) might be an alternative hypothesis. It turns out, however, that a negative oeffiient assoiated with (9) is empirially not relevant. 20

23 fator markets, human apital in industry 1 does not drive down the wage for high-skilled workers in industry 2 through the usual supply effet. Industry 2 might, however, benefit from human apital in industry 1 through external knowledge flows. In this ase, job growth in 2 depends positively on the human apital intensity of industry 1. Thus, if I find that loal industries benefit from the loal availability of human apital in other setors (i.e., a positive oeffiient assoiated with (9)), this would be onsistent with an inter-industry human apital externality. In addition to the aggregate human apital share of ity that, from the point of view of industry (i,), refers to the total stok of high-skilled workers in other industries, I onstrut an index for the degree of speialization of surrounding loal knowledge in the following way, skill speialization i, high skilled high skilled S s, s =, (10) s= 1, s i emps, emps i.e. the sum of absolute differenes of loal minus national human apital intensities aross all other industries S. This index is equal to zero if the surrounding loal skill struture exatly mathes the national average, and it inreases with the degree of idiosynrasy of the loal environment. If the oeffiient on this variable is signifiant, loal industries (i,) are affeted by the surrounding skill struture, holding onstant the total stok of regional human apital. This would also suggest the presene of some loalized external transmission hannel aross industries. In partiular, a signifiantly positive oeffiient suggests that loal industries benefit from speialized surrounding knowledge. 16 In the panel estimation I inlude industry-, ity- and time-period fixed effets. Table 6 reports the regression results when all private, non-primary loal industries are lumped together. With respet to the own-industry employment shares of high-skilled and medium-skilled workers, the results for loal industries resemble what I have found for entire ities. The initial share of high-skilled workers is insignifiant for total employment growth (olumn 1). It is positively related to low-skilled employment growth (0.6899, olumn 2), but negatively related to growth of high-skilled jobs ( , olumn 3). Inter alia, the impat of the initial level on the growth rate of the human apital share is signifiantly negative ( ). Strong loalized spillovers that would render inreasing returns to human apital within industries and trigger a 16 This issue is related to the literature on diversity vs. speialisation that was launhed by Glaser et al. (1992) and Henderson et al. (1995). An analysis on West Germany that follows this strand has been provided by Blien et al. (2006). For a survey, see Combes and Overman (2004). This literature has foussed on the impat of the industry struture of overall employment on growth of loal industries, however, and has remained quite silent on the (relative) importane of human apital. 21