How can agglomeration economies increase transportation cost

Solution

  In urban economics, economies of agglomeration are the benefits that firms obtain by locating near each other (\'agglomerating\'). This concept relates to the idea of economies of scale and network effects. As more firms in related fields of business cluster together, their costs of production may decline significantly (firms have competing multiple suppliers; greater specialization and division of labor result). Even when competing firms in the same sector cluster, there may be advantages because the cluster attracts more suppliers and customers than a single firm could achieve alone. Cities form and grow to exploit economies of agglomeration.

\'Diseconomies of agglomeration\' is the opposite case. Additional competition drives down pricing power. For example, spatially concentrated growth in automobile-oriented fields may create problems of crowding and traffic congestion. It is this tension between economies and dis-economies that allows cities to grow while keeping them from becoming too large.

Agglomeration economies are closely associated with economies of scale and the network effects mentioned above. A positive outcome, agglomeration economies, will only be achieved if the benefits outweigh the disadvantages. The ultimate result of agglomeration economies is the formation and growth of a city.

The basic concept of agglomeration economies is that production is facilitated when there is a clustering of economic activity. The existence of agglomeration economies is central to the explanation of how cities increase in size and population, which places this phenomenon on a larger scale. This concentration of economic activity in cities is the reason for their existence, and they can persist and grow throughout time only if their advantages outweigh the disadvantages.