Production Diversity

Well we're living here in Allentown
And they're closing all the factories down
Out in Bethlehem they're killing time
Filling out forms, standing in line
--Billy Joel

Trade theory 101 posits that two locales benefit most if each focuses on producing a particular output and then trade with each other. Productivity should be higher because of learning effects and lower switching costs. More wealth is therefore created to spread among people in both locales.

However, this stance assumes a static world that does not appreciably change. In reality, taste preferences and innovation evolve which renders production technologies obsolete over time. Locales that limit production to a few specialties to particular production specialties expose themselves to the risk of producing output that no one wants.

The finance analogy is the investor who positions his entire portfolio in a single stock. Unanticipated problems with the underlying company's operations could send the stock lower. Because the value of the investor's portfolio is entirely correlated to the performance of a single security, it is vulnerable to uncertainty.

Just as it is prudent for investors to spread risk over multiple securities, communities will be more robust if they are populated by a variety of producers. Manufacturers, service providers, big, small. The more variety, the better.

Communities that overspecialize with respect to size (e.g., catering to large producers) or sector (e.g., service over manufacturing) increase risk of economic stagnation or worse.