Have you ever thought about why San Francisco became the hub for technology? Perhaps you wonder about how Detroit became the primary location for the auto industry. It seems almost counter-intuitive that tech companies or car companies would choose the same area to have their headquarters located. In fact, the cluster of these tech companies and auto manufacturers are an example of the economic term agglomeration. Agglomeration is a powerful economic concept that has a big influence on the way an urban area is developed and where companies choose to be located. There are many underlying theories and processes regarding the effects of agglomeration.

Different Types of Agglomeration  

Agglomeration is the term economists use to refer to similar businesses being located in close proximity to one another. Essentially, the term agglomeration is the relationship of clusters of populations or business activities.

Process and Theory of Agglomeration

At the core, the underlying theory of agglomeration is that resources and businesses have an advantage of several efficiencies when they are located near each other. In reality, there are two main types of agglomeration, which are localization economies and urbanization economies.

Localization Agglomeration

Agglomeration is driven by two factors. Those factors are the localization or concentration of a specific industry in an area, and the actual size of the area, urbanization. Localization is all about different firms choosing to be located in a particular area. This is due to the regional advantages that the area has to offer. This may include such things as access to inputs. For example, many wineries are located in California because grapes can be grown in the area for a lower cost because the agriculture is right for production. Farmers tend to settle in the same area as they know the land is good for certain types of crops.

Essentially, localization occurs because clusters of firms that produce similar or the same types of products build in the areas that are best for producing those products. The advantages increase further as more companies set up in a specific area. Firms can share labor pools and knowledge in addition to the inputs.


Urbanization refers to the agglomeration throughout the industry boundaries. When one type of firm is present in an area, it can attract firms from other industries as well. Urbanization economies can lead to the development of diverse, large cities that have numerous jobs. These jobs and other amenities are attractive to a more skilled labor force. An abundance of labor is beneficial for companies. An increase in the workforce leads to a higher density of skilled workers. This means that firms are going to be able to find workers that have their desired skill requirements more easily.

Additionally, companies will benefit when companies within other industries move to the area as these companies will likely have skills that are needed. For example, when firms such as corporate headquarters located in a single area, the business may share other firms that provide services like accounting, legal, and marketing.

Other Benefits

While it is clear that firms benefit greatly from agglomeration, it is important to note that the region also benefits from agglomeration. Clusters of firms in similar industries located in the same area provides workers of the region with more job opportunities. With higher-paying jobs, the economic conditions for the area will improve. With more firms of a specific type in a region, there is a better chance that people will set down roots in the area by purchasing a home and establishing a better overall environment for everyone.

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