MATCHING AND AGGLOMERATION ECONOMIES IN A SYSTEM OF CITIES

This paper examines resource allocation in a system of cities with heterogenous workers and firms and imperfect information. We derive an agglomeration economy in the labor market from a matching process between workers and firms, and show that it has the characteristics of a local public good. We illustrate two externalities associated with firm location, and show that they render free entry equilibria inefficient. We analyze the formation of equilibrium cities as a game, and argue that since profit maximizing land developers cannot control the number of firms directly, they cannot attain efficient city sizes. © 1990.