What Causes Agglomeration of Services? Theory and Evidence from Seoul (with Ryungha Oh)
July 2023. Awarded Best Student Paper Prize (2022) by the Urban Economics Association
Why are economic activities concentrated in space? What are the policy implications of this concentration? And how do we expect it to change in the future? We revisit these classic questions in the context of non-tradable services, such as restaurants and retail, in Seoul. To understand the concentration of services, we first causally identify positive spillovers across services stores. We microfound these spillovers by incorporating the trip-chaining mechanism—whereby consumers make multiple purchases during their services travel—into a quantitative spatial model that endogenizes the spatial distribution of services. When calibrated to an original survey on trip chaining, this mechanism explains about one-third of the observed concentration. However, unlike standard agglomeration mechanisms, it does not lead to inefficiency nor it exacerbates welfare inequality. Finally, we show that spatial linkages of services consumption play a crucial role in shaping the impact of the rise of work from home and of delivery services on the distribution of services.
Persistent Noise, Feedback, and Endogenous Optimism: A Rational Theory of Overextrapolation
I propose a noisy rational expectations model with persistent noise. Firms learn about economic conditions from signals, and the noise in the signals is persistent rather than i.i.d. over time. Firms rationally account for the persistence of noise and update their interpretations of signals based on ex post observations of true economic conditions. I show that this process gives rise to a novel mechanism by which optimism arises endogenously, which in turn amplifies or dampens the effects of underlying shocks. In particular, this model can generate the delayed overreaction in firms' expectations documented in the literature, when firms are better informed about idiosyncratic shocks relative to aggregate shocks. Moreover, strategic complementarity between firms and the resulting higher-order optimism further strengthen my mechanism. Finally, I distinguish empirically my rational theory of optimism from behavioral theories by exploiting the difference in the degree of overextrapolation between consensus and individual forecasts.