In Chapter 4, Webster and Lai discuss how property rights and transaction costs influence spatial organization. The authors use bid rent theory - a concentric spatial model that explains how actors compete for proximity to a prime location - to demonstrate the spatial formation within a city. Neighborhoods are formed when individuals bid for locations that balance their cost of travel with their ability to locate near other individuals who share similar preferences. Likewise, industrial and service clusters emerge as production units locate near their final markets or factors of production. Through relocation, these clusters benefit from positive externalities and lower opportunity costs.

Webster and Lai argue that the bid rent model oversimplifies the relation of activities in space; the model falsely assumes perfect competition, perfect knowledge, and negligible transaction costs. In the absence of these perfect conditions, there will inevitably be times when supply outstrips demand or other externalities work to reduce the value of otherwise profitable land. In particular, our authors identify two forms of imperfect knowledge that can change spatial order: random and systematic knowledge variations. Random knowledge variations are based on the discrepancy between individual choices, respecting the fact that individuals/firms are unique and might not necessarily follow predictable patterns. Conversely, systematic knowledge variations occur when individuals and industries opt to stay in their existing, sub-optimal territory in order to avoid the cost of searching for additional information regarding potential partnerships or alternative locations, even when superior locations may exist.

Our authors conclude by describing the process of institutional deepening, in which additional laws and regulations are formed to handle urbanization. The transfer of land from agricultural use to urban uses around urban areas incites the need for greater regulation, which tends to occur in a spontaneous manner as a city grows.