An Equilibrium Model Endogenizing the Emergence of a Dual Structure between the Urban and Rural Sectors

Abstract

This paper presents a general equilibrium model which formalizes the trade-off between economies of specialization and transaction costs. The comparative statics, based on corner solutions, indicate that the general equilibrium will shift between several market structures as transaction efficiency is improved. Introducing a differential in transaction efficiency between the agricultural and manufacturing sectors, we derive the emergence of a city from the evolution of the division of labor, which is driven by improvements in transaction efficiency. The division of labor is necessary but not sufficient for the emergence of cities. A sufficiently high transaction efficiency will make a city emerge from a high level of division of labor between specialized manufacturers.