Sectoral specialisation versus functional specialisation

We study the role of sectoral specialisation and functional specialisation in the growth and development of local economies. In our model with Ricardian efficiency differences and agglomeration economies, locations choose endogenously the degree of sectoral specialisation and functional specialisation. The sourcing of function inputs into a sector are geographically separated by a spatial transaction cost. Model-based simulations suggest that spatial transaction costs determine the level of sectoral specialisation and functional specialisation of locations.