Industrial agglomeration, firm heterogeneity, and environmental pollution

Abstract This paper introduces firm-level heterogeneity in productivity into the Pflüger model (Reg Sci Urban Econ 34:565–573, 2004) with a quasi-linear utility function. Our model features how firm heterogeneity and trade costs endogenously determine the spatial equilibrium of a regional economy. We analytically derive the break point and a sufficient sustain point of trade cost levels. We find that an increase in firm heterogeneity fosters industrial agglomeration. Moreover, we integrate the impact of environmental pollution on migration into the model. Industrial pollution produces an additional dispersion force. We demonstrate that the agglomeration force stemmed from a high degree of firm heterogeneity may outweigh the dispersion force caused by pollution externality, thereby fostering regional industrial agglomeration. The results have theoretical implications for empirical studies and the establishment of regional policies.