Infrastructure spillovers and strategic interaction: does the size matter?

We set up a model in which the residents of two neighboring municipalities use the services provided by public infrastructures located in both jurisdictions. The outcome is that municipalities strategically interact when investing in infrastructures, with the small municipality reacting more to the expenditure of its neighbor than the big one. This theoretical prediction is tested by estimating the determinants of the stock of public infrastructures of the municipalities belonging to the Autonomous Province of Trento in Italy. By introducing the classical spatial lag-error component, we find that municipalities positively react to an increase in infrastructures by their neighbors, but the effect vanishes above a given population threshold. Such a result is confirmed when we exploit the exogenous variation in the neighbors’ stock of infrastructures induced by a strong flood that occurred in the Province of Trento in 2000