Abstract

We use the fall of the Berlin Wall in 1989 to show that personal relationships which
individuals maintain for non-economic reasons can be an important determinant of regional
economic growth. We show that West German households who have social ties to East
Germany in 1989 experience a persistent rise in their personal incomes after the fall of
the Berlin Wall. Moreover, the presence of these households significantly affects economic
performance at the regional level: it increases the returns to entrepreneurial activity, the
share of households who become entrepreneurs, and the likelihood that firms based within
a given West German region invest in East Germany. As a result, West German regions
which (for idiosyncratic reasons) have a high concentration of households with social ties
to the East exhibit substantially higher growth in income per capita in the early 1990s. A
one standard deviation rise in the share of households with social ties to East Germany in
1989 is associated with a 4.7 percentage point rise in income per capita over six years. We
interpret our findings as evidence of a causal link between social ties and regional economic
development.