The Industry choice

Bulba! bulba at
Tue Jan 4 12:54:40 EST 2005

On Mon, 3 Jan 2005 00:08:25 +0100, aleaxit at (Alex Martelli)

>> True. I have a bit of interest in economics, so I've seen e.g.
>> this example - why is it that foreign branches of companies
>> tend to cluster themselves in one city or country (e.g.

>It's not just _foreign_ companies -- regional clustering of all kinds of
>business activities is a much more widespread phenomenon.  

First, even though I disagree with you in places, thanks for 
this reply - it enhanced my knowledge of the topic in some

Re the foreign/domestic companies: I have observed this what I call
"irrational clustering" esp. re foreign companies here.

>Exogenous is fine if you're looking at the decision a single firm, the
>N+1 - th to set up shop in (say) a city, faces, given decisions already
>taken by other N firms in the same sector.

>The firm's production processes have inputs and outputs, coming from
>other firms and (generally, with the exception of the last "layer" of
>retailers etc) going to other firms.  Say that the main potential buyers
>for your firm's products are firms X, Y and Z, whose locations all
>"happen to be" (that's the "exogenous" part) in the Q quarter of town.
>So, all your competitors have their locations in or near Q, too.  Where
>are you going to set up your location?   Rents are higher in Q than
>somewhere out in the boondocks -- but being in Q has obvious advantages:
>your salespeople will be very well-placed to shuttle between X, Y, Z and
>your offices, often with your designers along so they can impress the
>buyers or get their specs for competitive bidding, etc, etc.  

What you wrote regards especially strong the industries you pointed
at: fashion, jewellery, esp. I think in those industries those factors
may be decisive. When this street is renown in the city to have 
"good jewellers" located there, the choice for a new jeweller in this
city is almost like this: get located there or die.

However, I'd argue that industries with those kinds of dependencies
are actually pretty rare. 

>At some
>points, the competition for rents in quarter Q will start driving some
>experimenters elsewhere, but they may not necessarily thrive in those
>other locations.  If, whatever industry you're in, you can strongly
>benefit from working closely with customers, then quarter Q will be
>where many firms making the same products end up (supply-side

>Now consider a new company Z set up to compete with X, Y and Z.  Where
>will THEY set up shop?  Quarter Q has the strong advantage of offering
>many experienced suppliers nearby -- and in many industries there are
>benefits in working closely with suppliers, too (even just to easily
>have them compete hard for your business...).  

I grant that this model is neat and intuitive - but I'd argue it is
not very adequate to real world. Read on.

>So, there are easily
>appreciated exogenous models to explain demand-side clustering, too.

>That's how you end up with a Holliwood, a Silicon Valley, a Milan (for
>high-quality fashion and industrial design), even, say, on a lesser
>scale, a Valenza Po or an Arezzo for jewelry.  Ancient European cities
>offer a zillion examples, with streets and quarters named after the
>trades or professions that were most clustered there -- of course, there
>are many other auxiliary factors related to the fact that people often
>_like_ to associate with others of the same trade (according to Adam
>Smith, generally to plot some damage to the general public;-), but
>supply-side and demand-side, at least for a simpler exogenous model, are

>Say that it's the 18th century (after the corporations' power to stop
>"foreign" competition from nearby towns had basically waned), you're a
>hat-maker from Firenze, and for whatever reason you need to move
>yourself and your business to Bologna.  If all the best hat-makers'
>workshops and shops are clustered around Piazza dell'Orologio, where are
>YOU going to set up shop?  Rents in that piazza are high, BUT - that's
>where people who want to buy new hats will come strolling to look at the
>displays, compare prices, and generally shop.  

That will only be true if the hats from Piazza dell'Orologio are much 
better than elsewhere.

If the quality and prices of products converged, the gain for the
customers to go there isn't high. And the prices for customers
have to be higher, as the high rents drive some suppliers out,
so the supply of hats is lower, ergo customer prices are higher.

>That's close to where
>felt-makers are, since they sell to other hat-makers.  Should your
>business soon flourish, so you'll need to hire a worker, that's where
>you can soon meet all the local workers, relaxing with a glass of wine
>at the local osteria after work, and start getting acquainted with
>everybody, etc, etc...

That is true in the model. However, I don't find it very true
in practice in a lot of industries:

- "physical proximity" in this city very often means navigating
through jammed roads, so the transportation costs in terms of 
time and money may very well increase rather than decrease by 
locating "in a cluster", even though physical distance may
be smaller. physical distance != temporal distance & a cost
of getting there.

- since everything is more expensive, so is labor; even
if you pay this worker a little bit less elsewhere, he might
find it more attractive to commute shortly to work and 
have lower costs of living in a different area, so this very 
well may work as a motivation to relocate

- few large businesses nowadays have customers neatly
clustered in one location, they tend to sell countrywide
or worldwide; so the premium for getting into this expensive
place is low and the costs are high

- production nowadays tends to be geographically 
distributed as well

- communication costs and transportation costs are DRAMATICALLY
lower nowadays than they used to be (today it costs 1/80 [one
eightieth] to transport a kg of mass using an aircraft in 
comparison to what it cost in 1930s; ditto for telecommunication).

Consider real world examples: Microsoft in Redmond or Boeing in
Seattle. Microsoft needs quite a lot of programmers. It would be
rather hard to find enough programmers born and educated in 
Redmond, wouldn't it?

Boeing: Seattle?! Why Seattle? Doesn't Boeing sell most of its 
new aircrafts in Washington? 

AFAIK, in Europe Boeing does much of its production in 
cooperation with Alena in Italy. From this viewpoint it really 
doesn't matter much if Boeing is located in Seattle or anywhere 
else in America really, does it?

Right here (Poland), most of the foreign corporations set up their
call centers in Warsaw, which is totally ridiculous given how
expensive that city is. Oh I can understand setting up a warehouse
by HP there because it's close to its biggest customers. But
I really see no good reason behind HP call center being located in
Warsaw, too, AFAIK (or at least that's the city code when I have
to call them sometimes).

Most of the successful domestic companies I have observed here 
have started and still operate in some God-forgotten provincial 
towns, where land and labor is cheap and when it comes to 
highly skilled professionals, you have to "import" some or all of 
them from  elsewhere anyway, because not even a big city is 
likely to have precisely all the kinds of ultra-specialized
professionals that you may need. And there's less crime, and 
shuttling kids to school isn't a nightmare, and the costs of living
are lower. Plus there's less of other things to do, so your workers
tend to focus more on work. :-)

>Risk avoidance is quite a secondary issue here (except if you introduce
>in your model an aspect of imperfect-information, in which case,
>following on the decisions made by locals who may be presumed to have
>better information than you is an excellent strategy).  Nor is there any
>"agency problem" (managers acting for their interests and against the
>interest of owners), not a _hint_ of it, in fact -- the hatmaker acting
>on his own behalf is perfectly rational and obviously has no agency

I find no justification in most of foreign companies setting up their
call centers in a ridiculously overpriced capital city - so from
my viewpoint the  risk avoidance is the only explanation that is 

Not all corporations do that: in this country Coca-Cola has made
their big "green field" investment almost in the middle of nowhere 
in this country. GM, Volkswagen, FIAT, and most of other carmakers
have made similar decisions. Doesn't seem like those were bad business
decisions for them.

The cluster I've seen - an IT "corporate area" in Dublin, 
Ireland -  was specifically created not due to "natural clustering",
but due to govt policy of tax breaks and preparing good
infrastructure in this place rather than some inter-business and
inter-customer dependencies, since e.g. Microsoft (where the company
sent me for  training) neither is able to get all the workers it needs
just from this city, nor it sells mostly to local customers, but it
sells all over Europe.

To me, the issue of manager having to face their superiors
asking him a question - "why on Earth have you decided
to locate our branch in the middle of nowhere in this country?
Why not in capital city? Can't you look at the map? Read some
stats how many inhabitants this city has and what is the
income level there?" is overwhelming: it would take long 
time to explain for this manager who e.g. may have already 
got his hands dirty in this industry in that country to know 
that say, there's little revenue increase to be gained in 
locating  the facility in capital city, the needed workers are
actually hard to find there, etc.

To me, this is much like decision whether do much of 
development in  Python or MS VS / VB. "But everybody's
using VisualStudio / VB" is a simple and compelling argument: 
"so many people can't be wrong", while explanations that 
going Python may actually be better decision in this context
requires long and complex explanations and managers oft can
not even be bothered to read executive summaries.

I feel econ models frequently are elegantly designed
abstractions of elegantly designed problems; the problem 
is how close those are to the real-world problems. At
the end of the day, it's "human action" that gets all
of that implemented. I've seen too much resources 
going down the drain in completely idiotic projects 
and decisions to believe managers are rational beings.


Real world is perfectly indifferent to lies that 
are the foundation of leftist "thinking".

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