Path dependence and local innovation systems in city-regions.

INTRODUCTION

In this brief paper, we propose an explanation for the long-run evolutionary trajectories of city-regional economies. We develop the argument that such an explanation could rest on the interrelationships between the concepts of path dependence and local innovation systems. Within this framework our basic argument is that the sectoral development of city economies evolves over long periods of time in a path dependent manner and that 'as a consequence' condition the scope and possibilities of future development. Local innovation systems provide the key dynamic of change in these structures. Over time the interrelationships between local economic structure and innovation determine the path dependent economic trajectories of city economies relative to one another.

Evolutionary economic theory provides a rich set of possible explanations for understanding change in local economies. Within this theoretical approach three main perspectives may be identified: Generalised Darwinism which uses ideas and metaphors from evolutionary biology; the theory of complex adaptive systems; and path dependence theory. These are illustrated schematically in Figure 1.

The Generalised Darwinian (biological) evolutionary analogy adopts concepts such as variation, novelty, selection and continuity (retention) to explain the evolution of such entities as populations of firms and industries. The theory also recognises that such activity is not only purely economic but also social and deals with the co-evolution of both the economy and its institutional arrangements. Complex adaptive systems theory adapts ideas taken from complexity theory to understand the development of networked forms of economic activity, and how macro-level economic structures and organisation emerge from micro-behaviours. This approach focuses on how such systems self-organise and adapt over time, in response to both endogenously generated developments and external shocks. Path dependence theory seeks to explain the long-term historical development of distinctive patterns of technological and industrial forms, and how once established particular trajectories of technological and industrial development become self-reinforcing via various forms of autocatalytic processes, especially externalities and increasing returns effects.

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Within these three theoretical approaches evolutionary economists have addressed issues where mainstream economics offers little in the way of theoretical explanation. The big themes in this work include economic growth and decline, technological change, industry life cycle studies and the importance of institutions in influencing economic change (Essletzbichler & Rigby 2006). Research in these areas includes economic growth (Nelson & Winter 1982; Nelson 1995; Verspagen 2001), technological change (Arthur 1987, 1988; David 1985; Dosi 1982; Dosi et al. 1988; Pavitt 1984), industrial evolution (Abernathy & Utterback 1978; Klepper & Graddy 1990; Klepper 2001), and the importance of institutions and regimes (Hodgson 1988; Nelson 2001; Peukert 2001). This body of work is now substantial enough for Hodgson (1993) to have provided a history of evolutionary theorising, for Witt (2003) to have pulled together a collection of classic articles in evolutionary theory, for a new evolutionary microeconomics to have emerged (Potts 2000), and for the beginnings of an evolutionary foundation of economics to be championed (Dopfer 2005).

In this theoretical analysis of the economic trajectories of city-regional economies we draw on all three perspectives but especially on path dependence theory. We also agree with those theorists cited above that innovation is the key to the introduction of new knowledge, novelty, change and renewal in long-term pathways not just in national and regional economies but also in specific cities where most economic activities are actually located. The particular characteristics of local innovation systems determine the relative abilities of different city economies to generate novelty by recombining endogenous knowledge with externally sourced new knowledge to pro vide a local economy with its evolutionary momentum. Some local innovation systems have proved to be much more effective at doing this than others. This is a key reason underlying the differing economic performance of urban economies and so understanding the interactions between the structural pathways followed by individual cities and their different abilities to absorb new knowledge and generate new commercial products and services is critical to understanding why some forge ahead, others may catch up and yet other cities fall behind in overall economic performance.

We develop these arguments as follows. First we briefly set out our argument on the nature of path dependent economic development in city-regional economies. This is followed by a brief discussion of how new pathways are created. Next we discuss the relationships between path dependence and local innovation systems. We then draw the different strands of our arguments together and illustrate their possible interrelationships in a concluding section.

PATH DEPENDENT EVOLUTIONARY THEORY

From an evolutionary perspective, a key question is: given the operation of similar evolutionary principles in different city economies with different specific economic histories how does this lead to observed divergent outcomes? The answer to this question for many evolutionary economists is that once a particular pattern of socio-economic development is established, it can become cumulative and characterised by a high degree of persistence or 'path dependence' (Martin 2003: 27; Martin & Sunley 2006; Martin & Sunley 2009).

Martin and Sunley (2006: 402) define path dependence as 'a probabilistic and contingent process (in which) at each moment in historical time the suite of possible future evolutionary trajectories (paths) of a technology, institution, firm or industry is conditioned by (is contingent on) both the past and the current states of the system in question. The past thus sets the possibilities while the present conditions what possibility is to be explored'.

Work in the social sciences on the concept of path dependence over the past two decade or so has been strongly influenced by the pioneering studies of Paul David on the economic history of technology (David 1985, 1986, 1988, 1992, 1994) and of Brian Arthur on non-linear economic processes (Arthur 1988, 1989, 1994a, b, c, d). Both of these authors attribute path dependence to the emergence of autocatalytic or self-reinforcing processes that 'lock in' a particular industrial-technological trajectory in preference to others. In the case of David, these processes are:

* technical interrelatedness (the reinforcing effects of complementarity and compatibility between different components of a technology and its use);

* economies of scale (the benefits associated with the use of a technology as it gains in acceptance relative to other systems);

* the quasi-irreversibility of investments (in effect the inertia of sunk costs arising from the difficulties of switching technology-specific capital and human skills to alternative uses). These features are often grouped together as 'positive network externalities'.

Arthur identifies four types of increasing returns effects that generate path dependence in the economy:

* large fixed, initial set-up costs; dynamic learning effects (learning by doing, learning by interacting and learning by using all tend to entail positive feedbacks);

* co-ordination effects (which confer advantages to 'going along' with other economic agents taking similar actions);

* self-reinforcing expectations (where the increased prevalence of a product, process or practice enhances beliefs of further prevalence).

* Other carriers of history include 'routines' which Nelson and Winter (1982) use as one of their core concepts explaining industrial evolution as discussed above (Martin 2003: 28).

For firms and their industries, interactions between the carriers of history under conditions of uncertainty tend to reinforce past achievements and so create a dynamic favouring the continuation along existing pathways. These mechanisms therefore tend to preserve pre-existing structures and counteract novelty. Beinhocker (2006) suggests that the decision-making rules and mental models that have been applied in the past will continue to be used in uncertain environments. As a result one of the roots of path dependence is human decision making.

Another important characteristic of evolutionary and path dependent development of history is that it is irreversible. Thus, according to David, economies are irreversible historical processes in which future outcomes depend on past events and outcomes: at any point in time the state of an economy depends on the historical adjustment path taken to it (see Martin & Sunley 2006: 400). Irreversibility is a key characteristic of evolutionary processes in general.

The basic David-Arthur type of path dependence model suggests a four-phase model of the evolution of an industrial sector in an urban or regional economy. These are:

* a pre-formation stage;

* a path creation phase,

* a path lock-in phase, and

* a path dissolution phase (Martin & Sunley 2009; see Figure 2).

New paths do not emerge in a vacuum, but always in the context of existing structures and paths of technology, industry and institutional arrangements. These existing structures and paths--that together constitute the 'pre-formation phase'--provide the stimulus for, and shape the scope of, new opportunities, of technologies, products, whole industries, and institutions. During this early phase many cities may have the potential to develop the new industries. Windows of locational opportunity open up. Several different alternative new technologies or industries may co-exist at this stage. Experimentation takes place and no single technology predominates. Which particular technology or product or industry out of the alternatives emerges--or is 'selected'--may simply be a chance or contingent event, as, for example, where conditions happen to favour one alternative rather than another, or where one alternative has a slight 'first-mover' advantage over others; but could also be the result of deliberate and purposive (and competitive) behaviour by economic agents or institutions (such as a local university research laboratory).

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