Earlier this year, I wrote about industry clusters. What they are, where they come from, and how important they are. So I was surprised to open my newspaper this morning and find an article by Larry Elliott arguing that the so-called ‘agglomeration effects’ are not real (Regional policy requires rethink as myth of London’s productivity debunked).

This is a worry because one of the drivers for the emergence of clusters is the idea of agglomeration; businesses perform better when located near other businesses in the same sector. Was I wrong about the importance of clusters? Was I giving people bad advice?

GVA is not everything

So I followed up the original research by Beatty and Fothergill from Sheffield Hallam University. The study starts with the observation that the GVA per capita varies wildly across the UK, and policymakers use GVA per capita as a measure of productivity and efficiency. The range is enormous. If we set the UK average GVA per capita at 100, then regional performance ranges from 61 in Southern Scotland to 179 in London. As Larry Elliott points out, hairdressers in London are unlikely to be three times as productive and efficient as hairdressers in Scotland.

The study made a series of adjustments to the raw figures to account for how much of the regional population are working age, the level of unemployment, workers commuting into the region from other areas, the type of industry, and so on. After all these corrections, the study concludes that there is relatively little difference across the UK in how productive people are in their specific jobs; although the range is still from 76 in Cornwall and the Scilly Isles to 111 in London.

The authors believe that the UK government should try to divert growth to less prosperous areas because there will be no significant productivity hit and a beneficial reduction in inequality.

So what does this mean for industry clusters and agglomeration effects?

I’m not sure it changes anything.

Traditionally, agglomeration effects are driven by the delightfully named Marshall-Arrow-Romer externalities:

  • Input – a concentration of producers in a given industry makes suppliers want to be nearby. That means better availability of specialised services and reduced costs.
  • Skills and Labour – a cluster of businesses with similar needs creates a pool of specialised labour who can move freely between jobs.
  • Knowledge – proximity and labour mobility means that expertise, ideas and innovations spread rapidly.

That still holds true. Clusters are real. People continue to migrate to cities globally. Cities are still hotbeds of innovation. Even the rapid growth of communications technologies that allow remote-working and telecommuting has not yet affected the strength of clusters.

Support existing clusters to promote growth

Larry Elliott sees this as an argument against the pre-eminence of London in the UK economy. But industry clusters are found all over the UK. In a 2014 study, McKinsey identified thirty-one from the South-West to Scotland. Collectively they account for 8% of businesses and 20% of UK GVA.

“Cities are machines for invention”

There is an argument that successive governments have over-invested in London and allowed regional and rural infrastructure to degrade. There is an argument for increasing investment in other parts of the UK to rebalance the economy. But agglomeration effects are real. You will get the best results by building on the different strengths around the UK. Strengthening clusters and helping them to grow. And these growth areas will generally be found in the larger towns and cities.

GVA per capita probably does have too much of a hold on UK policy makers. We should not accept the raw figures without question, and the Sheffield Hallam study is a useful corrective to simplistic analysis, but you can’t ignore the power of the city as a driver of the economy, whether London, another UK city, or any city anywhere in the world. Cities are machines for invention.

I still believe in the conclusion of my previous piece:

“Clusters support innovation and growth. They start in many ways, but all offer knowledge sharing, partnership, infrastructure, a skills pool and career opportunities.

Here are some important messages about clusters.

For government – you can try to create a greenfield industry cluster, but having a strategy and money is not enough to guarantee success. It’s much better to find an existing cluster with potential to scale and get behind it.

For big business – being present in a relevant cluster is a great way to sense the direction of innovation and to find new partners.

For startups and small companies – if you can become part of a cluster you will enjoy better market understanding, the spur of competition, access to support infrastructure, and a pool of talented people. You will bathe in the knowledge of the community.

For individuals – a cluster is a good place to be if you are interested in what that cluster does. You can not only get your first job but probably your second and third too.”

The Power of Industry Clusters in Regional Development
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