Industrial diversification is a path-dependent process that leverages knowledge, skills, and new technologies. Because such resources are difficult to move, geography plays a crucial role in determining the future economic activities of countries, regions, and cities. Yet most of the evidence on the geographic diffusion of economic activities is restricted to the last 60 years and relies on correlations.
This paper analyzes the geographic diffusion of economic activities for Swedish towns between 1850 and 1950, using the evolution of the railroad network as a way to address endogeneity. We use the straight line between Sweden's 10 largest towns as an instrument for train adoption. Our instrumental variable estimates show that regions are more likely to diversify into sectors that are present in their train neighbors, suggesting that the impact of connectivity goes beyond access to markets: connectivity also promotes diffusion of economic activities, even at early stages of development.