Before 1870, India barely had railroads. It didn’t have many canals either, and only a small percentage of the population lived along the three main rivers. So when goods needed to be transported, people used steer, which could pull freight about 20 miles per day.
But the British, India’s colonial rulers, started building rail lines, and then built some more. By 1930, there were more than 40,000 miles of railroads in India, and goods could be shipped about 400 miles a day.
The result? As MIT economist David Donaldson shows in a newly published study on the economic impact of building infrastructure, railroads fostered commerce that raised real agricultural income by 16 percent.
Archival data from colonial India was used to estimate the impact of India’s vast railroad network.
It is found that railroads:
1. decreased trade costs and interregional price gaps;
2. increased interregional and international trade;
3. eliminated the responsiveness of local prices to local productivity shocks (but increased the transmission of these shocks between regions);
4. increased the level of real income (but harmed neighboring regions without railroad access);
5. decreased the volatility of real income; and
6. a sufficient statistic for the effect of railroads on welfare in the model accounts for virtually all of
the observed reduced-form impact of railroads on real income. I find similar results from an instrumental variable specification, no spurious effects from over 40,000 km of lines that were approved but never built, and tight bounds on the estimated impact of railroads. These results suggest that transportation infrastructure projects can improve welfare significantly, and do so because they allow regions to exploit gains from trade.