Economic base analysis

What Is Economic Base Analysis?

Economic base analysis is a method within regional economics that seeks to explain and forecast economic growth in a specific area by dividing its industries into two fundamental categories: basic and non-basic. This analytical framework posits that the primary driver of a local or regional economy's expansion is its basic industries, which produce goods and services for export outside the community, thereby bringing new income into the area. Non-basic industries, conversely, serve the local population and recirculate money already within the economy. Economic base analysis is a foundational concept in understanding regional economic dynamics and informs various economic development strategies.

History and Origin

The concept of economic base analysis has roots dating back to the early 20th century, with significant development occurring in the mid-1930s. While some sources trace early ideas to Robert Haig's work on the Regional Plan of New York in 1928¹⁵, Homer Hoyt, an influential land economist, played a crucial role in popularizing and formalizing the methodology. Working with the Federal Housing Administration (FHA) during the mid-1930s, Hoyt developed and applied an economic base framework to forecast local housing market demand. His techniques gained widespread recognition through the original publication of his textbook, Principles of Urban Real Estate, co-authored with Arthur M. Weimer in 1939.¹⁴ This work effectively disseminated the approach of dividing regional economic activity into its basic and non-basic components, making it feasible for local planners to adopt the economic base paradigm for analyzing urban and regional economies.¹³

Key Takeaways

• Economic base analysis classifies economic activities into basic (export-oriented) and non-basic (locally-serving) sectors.
• Basic industries are considered the primary drivers of economic growth, as they inject new money into the local economy.
• The theory employs an economic base multiplier to estimate the total impact of changes in basic employment or income on the overall economy.
• This analytical tool is widely used in urban planning and regional policy-making to understand economic structure and forecast future growth.
• Data availability, particularly employment data, is crucial for conducting an accurate economic base analysis.

Formula and Calculation

A core component of economic base analysis is the calculation of the economic base multiplier, which quantifies the relationship between basic and non-basic activities. One common method to identify basic employment within an industry is the location quotient (LQ).

The formula for computing the location quotient is:

$LQ = \frac{e_i / e}{E_i / E}$

Where:

• ( e_i ) = Local employment in industry ( i )
• ( e ) = Total local employment
• ( E_i ) = National employment in industry ( i )
• ( E ) = Total national employment

An LQ greater than 1.0 suggests that a region has a higher concentration of employment in a particular industry compared to the nation, implying that the industry produces a surplus for export and thus contributes to the basic sector. The excess employment (or output) beyond what is needed for local consumption is considered basic.

Once basic employment is determined, the economic base multiplier (EBM) can be calculated as:

$EBM = \frac{\text{Total Employment}}{\text{Basic Employment}}$

This multiplier indicates how many total jobs (basic plus non-basic) are supported by each basic job. For instance, an EBM of 2.5 means that for every 100 basic jobs, an additional 150 non-basic jobs are created or sustained in the local economy.

Interpreting the Economic Base Analysis

Interpreting economic base analysis involves understanding the implications of the basic-to-non-basic ratio and the economic base multiplier. A higher proportion of basic industries indicates a region’s strong external orientation and its ability to generate wealth from outside its borders. The economic base multiplier reveals the leverage of basic industries: a larger multiplier suggests that growth in the basic sector will have a more significant ripple effect throughout the entire local economy, creating more jobs and income in the non-basic sector.

Analysts use the results of economic base analysis to assess a region's economic stability and potential for growth. A diversified economic base with multiple strong basic industries is generally more resilient to downturns in any single sector. Conversely, an economy heavily reliant on one or two basic industries might be vulnerable to external market shifts or industry-specific challenges. Understanding these dynamics helps in strategic investment and development planning.

Hypothetical Example

Consider a small coastal town, "Seaside Haven," whose primary industry is tourism.

1. Identify Economic Sectors:
   • Basic Industries: Hotels, souvenir shops, fishing charters (serving tourists from outside).
   • Non-Basic Industries: Local grocery stores, laundromats, schools, town government (serving local residents and basic industry workers).
2. Gather Data: Assume Seaside Haven has 1,000 total jobs. Through detailed analysis using location quotients, it's determined that 400 jobs are in basic, export-oriented tourism activities (e.g., hotel staff, tour operators catering to visitors). The remaining 600 jobs are non-basic (e.g., local restaurant staff, municipal workers).
3. Calculate Economic Base Multiplier:
   $EBM = \frac{\text{Total Employment}}{\text{Basic Employment}} = \frac{1,000}{400} = 2.5$
   This multiplier of 2.5 suggests that for every job in Seaside Haven's basic tourism sector, 1.5 additional jobs are supported in the non-basic, local-serving sectors.
4. Forecast Impact: If a new resort opens, creating 100 new basic tourism jobs, the economic base analysis predicts an overall increase of 250 jobs (100 basic * 2.5 EBM). This includes the 100 new basic jobs plus 150 new non-basic jobs (e.g., more restaurant workers, retail clerks, and other support staff needed to serve the expanded workforce and their families). This illustrates the multiplier effect on the local economy.

Practical Applications

Economic base analysis is a fundamental tool for regional planning and economic development professionals. Its practical applications span several areas:

• Regional Planning and Policy: Government agencies and planners use economic base analysis to understand the economic structure of a region, identify key industries, and formulate strategies to promote sustainable growth. It helps in deciding where to allocate resources, such as improving infrastructure or offering incentives for business expansion.
  ¹² Forecasting and Impact Assessment: By analyzing trends in basic industries, analysts can forecast future changes in total employment, population, and income for a region. This is crucial for anticipating demand for public services, housing, and other local amenities. The New Mexico State University Extension highlights that changes in the basic sector typically impact the non-basic sector and overall local economy trends.
  ¹¹ Real Estate Market Analysis: In real estate, economic base analysis provides insights into a region's economic health, influencing property values and development potential. A strong, growing basic sector suggests increased demand for commercial and residential properties.
  *¹⁰ Industry Targeting: Local economic developers can use the analysis to identify industries with high export potential (basic industries) that align with the region's comparative advantage. Efforts can then be focused on attracting or expanding these specific sectors, knowing they will bring new wealth into the community.
• Data Collection and Analysis: Accurate application of economic base analysis relies on comprehensive data, often from sources like the U.S. Bureau of Economic Analysis (BEA), which provides detailed regional economic accounts including data on employment and income. T⁹his data allows analysts to differentiate between basic and non-basic industries and calculate their respective impacts. More information can be found through the Bureau of Economic Analysis (BEA) regional data at www.bea.gov/data/economic-accounts/regional.

Limitations and Criticisms

While a valuable framework, economic base analysis is not without its limitations and criticisms. A primary critique is its often narrow focus on exports as the sole source of regional economic growth, potentially overlooking the significant contributions of internal factors such as local investment, government spending, and household consumption. Critics argue that the theory may oversimplify the complex interdependencies within an economy by assuming a direct, often static, relationship between basic and non-basic sectors.
⁷, ⁸
Other limitations include:

• Difficulty in Classification: Distinguishing precisely between basic and non-basic activities can be challenging in practice, as many businesses serve both local and external markets. Assigning an industry solely to one category might lead to inaccuracies.
  ⁶* Data Limitations: Obtaining detailed and timely data on export-import flows at a sub-national level is often difficult and costly, leading to reliance on proxy measures like employment data, which may not fully capture economic activity or value.
  ⁵* Static Nature: The model often assumes a constant basic-to-non-basic ratio and does not readily account for changes in productivity, wage levels, or technological advancements that can alter these relationships over time.
  ⁴* Exclusion of Imports: The theory traditionally overlooks the role of imports, meaning it may not fully capture the leakages of expenditure that can limit the beneficial effects of basic sector investment.
  ³* Applicability to Large Economies: Some argue that the model is more suitable for smaller, specialized economies rather than large, complex urban areas where internal trade and diverse economic activities contribute significantly to growth, making a simple basic-non-basic dichotomy less adequate. ²As Katarzyna Miszczak notes, while a simplified abstraction, economic base theory can be a helpful platform for regional strategies, but its theoretical implications and limitations of basic and non-basic sectors need to be explored.
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Economic Base Analysis vs. Shift-Share Analysis

Economic base analysis and shift-share analysis are both tools used in regional economics to understand local economic dynamics, but they differ in their approach and focus.

Economic base analysis focuses on identifying the primary drivers of regional growth by categorizing industries into basic (export-oriented) and non-basic (locally-serving) sectors. It emphasizes how external demand for a region's goods and services brings new money into the economy, subsequently stimulating local, non-basic activities through a multiplier effect. Its primary goal is to determine which industries form the economic foundation and how changes in these industries impact overall regional employment and income.

Shift-share analysis, on the other hand, is a descriptive technique used to decompose changes in a region's employment data or output over time. It attributes regional growth or decline to three components: national growth (how the region's economy would have grown if it matched national trends), industry mix (how the region's specific industry composition compares to the national mix), and regional competitiveness (how well the region's industries perform relative to their national counterparts). While economic base analysis seeks to identify the cause of growth (exports), shift-share analysis helps to explain the sources of change in a region's economic structure. Both methods are often used in conjunction to provide a more comprehensive understanding of regional economic performance and inform policy decisions.

FAQs

What is the core idea behind economic base analysis?

The core idea of economic base analysis is that a region's economic growth is primarily driven by its "basic" industries, which produce goods and services for export outside the region, bringing new money into the local economy. All other "non-basic" industries exist to serve the needs of the local population and the basic sector.

How is a basic industry different from a non-basic industry?

A basic industry sells its products or services primarily to customers outside the local area, generating income that flows into the region. Examples might include large manufacturing plants that ship goods nationwide or tourism businesses catering to external visitors. A non-basic industry, also known as a service or local industry, sells its products or services primarily to local residents and businesses, recirculating existing money within the economy. Examples include local grocery stores, dry cleaners, or local government services.

Why is identifying basic industries important for a region?

Identifying basic industries is crucial because they are considered the engine of regional economic growth. Understanding which sectors bring in external income allows policymakers and planners to focus development efforts on strengthening these industries, which in turn can lead to job creation, increased income, and overall prosperity for the region due to the economic base multiplier. It helps in formulating effective monetary policy for local government or businesses.

What kind of data is used for economic base analysis?

The most common type of data used for economic base analysis is employment data, often disaggregated by industry sector. While ideally, output and trade flows would be used, these are rarely available at the sub-national level. Income data can also be used, but employment data is more readily accessible and serves as a practical proxy for measuring economic activity.

Can economic base analysis predict future economic growth?

Yes, economic base analysis can be used to forecast future economic growth. By making projections about the growth of basic industries, analysts can use the calculated economic base multiplier to estimate the resulting changes in total employment, population, and overall economic activity (like Gross Domestic Product at a regional level). However, these forecasts rely on certain assumptions and may not account for all complex economic variables.