The concept of not putting all one’s eggs in one basket – widely followed in the investment world – also accords with the economic structure of cities and even entire countries. Heavily relying on any one sector or industry, especially in now, when the pace of development is fast and the next big thing can be right around the corner, can prove disastrous.
One does not have to go far back in history to remember the fate of the US city Detroit. It still struggles with the negative ramifications of its historically-dominant automobile industry, which collapsed amid a decline in US manufacturing. In contrast, diversification shields the economy from extremes of market volatility, as slowing economic growth in one sector of economy (such as manufacturing) can be compensated by other sectors (eg business services).
Where do major metropolises in the world stand in their levels of economic diversification? A useful metric – the Herfindahl-Hirschman Index – enables us to identify the top 10 most – and least – diversified cities in the world.
Zooming In on the Industrial Make-up of the Most and the Least Diversified Cities in the World, as per the Herfindahl-Hirschman Index: 2015
Source: Euromonitor International
Note: Guayaquil (Ecuador) and Kuwait City (Kuwait) emerged, respectively, as the most and the least diversifiedcities in 2015, among 126 major metropolises across the globe.
A useful tool to measure the extent of diversification in a city’s economy
If an economy is classified as diversified, it means that its GDP does not rely heavily on any one economic sector but is balanced across a variety of sectors. In the above chart, in the case of Guayaquil it is evident that the total gross value added to a city is more or less equally sourced from different sectors, which makes Guayaquil a highly diversified urban economy. In contrast, Kuwait City is heavily dependent on one sector, specifically manufacturing and mining, making this Middle Eastern city the least diversified urban economy in the world.
The Herfindahl-Hirschman Index (HHI) is a tool that helps quantify the level of economic diversification of a city. The HHI is commonly used to measure market concentration to guard against monopolistic tendencies of companies; however, it is also effective as a general diversity metric. The Herfindahl-Hirschman Index involves a simple calculation of summing the squared shares of gross value added (GVA) captured by six economic sectors of a city: agriculture, manufacturing and mining, construction, commerce, business services and public services. The maximum value of HHI is 10,000, which would indicate that an urban economy is made up of only one sector (ie comprising 100% of the city’s GVA), which is obviously an unrealistic scenario. The economies of world metropolises consist of a number of sectors, and when their distribution is balanced, this results in a lower value in the Herfindahl-Hirschman Index, which signifies a higher degree of diversification. The following table lists the top 10 most and least diversified cities in the world out of a total of 126, according to their calculated HHI.
Top 10 Most and Least Diversified Cities, based on Herfindahl-Hirschman Index (score in parentheses): 2015
|Top 10 Most Diversified Cities||Top 10 Least Diversified Cities|
|1. Guayaquil, Ecuador (1,992)||1. Kuwait City, Kuwait (5,559)|
|2. Quito, Ecuador (2,105)||2. Baku, Azerbaijan (4,853)|
|3. Buenos Aires, Argentina (2,180)||3. Abu Dhabi, United Arab Emirates (4,755)|
|4. San Jose, Costa Rica (2,202)||4. Doha, Qatar (4,038)|
|5. Kolkata, India (2,223)||5. Almaty, Kazakhstan (3,431)|
|6. Ankara, Turkey (2,225)||6. Lagos, Nigeria (3,372)|
|7. Rotterdam, Netherlands (2,230)||7. Washington, US (3,364)|
|8. Osaka, Japan (2,261)||8. New York, US (3,328)|
|9. Bucharest, Romania (2,277)||9. Karachi, Pakistan (3,269)|
|10. Nagoya, Japan (2,278)||10. London, UK (3,262)|
Source: Euromonitor International
As can be seen from the table, the least diversified group is led by oil-rich cities in the Middle East but also includes prominent financial hubs, New York and London. Certainly, the concentration of highly profitable industries of oil extraction and finance in these cities is very beneficial for the local economies during boom times. But by the same token, crises can be more pronounced as well. While it can be very challenging to deliberately steer the economy to a certain industrial make-up, poorly diversified cities should be at least forward-looking and develop the infrastructure and human capital necessary to adapt to the industries of the future.