Sixth Edition of Urban Economics

Arthur O'Sullivan

McGraw-Hill/Irwin

Chapter 3: Why Do Firms Cluster?

1. Consider a city with two auto sellers, a Toyota dealer and a Honda dealer. Initially,

the distance between the two sellers is three miles. The Toyota dealer wants

to relocate to a site adjacent to the Honda dealer and submits a rezoning request

to the city council. The Honda dealer responds to the rezoning request with the

following statement: "One of the lessons from Econ 100 is that an increase in

supply will decrease price. If the Toyota dealer moves to the site adjacent to my

dealership, the local supply of cars will increase and I'll have to cut my prices to

sell the same quantity of cars." Critically appraise the Honda dealer's statement.

If the statement is incorrect, what's wrong with the reasoning? Illustrate your

answer with a graph.