Throughout the world, one striking fact about economic geography is that firms and workers tend to agglomerate, or cluster together, in certain places. This could be because some locations possess valuable natural resources, or because firms save on transport costs when they locate near their customers. However, from a policy perspective, an exciting possibility is that spatial concentration is driven by the power of productivity spillovers. By productivity spillovers, we refer to the idea that firms grow more productive simply by being located near other firms. These spillovers, or external economies of scale, can take many forms, including shared ideas or technologies, thick local labour markets, or intermediate input linkages (Marshall 1890). If localised productivity spillovers are large and important, they provide a promising rationale for governments to spend resources on cluster development.
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