Thick Markets: A Method for Creating Location Advantage

In my last newsletter, I discussed entrepreneurial ecosystems. Related to the ecosystems is the idea of using a geographic location as a source of competitive advantage. Some location issues are overcome by clusters, innovation hubs, and economic agglomerations (terms that are used interchangeably). These location solutions derive from thick labor markets (with plenty of skilled workers), the presence of specialized suppliers and service providers, and knowledge sharing among various companies and universities located in the same geographic region.

The concept of clusters refers to having many competitors, suppliers, knowledge providers, customers, regulators, and supporting industries in one geographic region. Clusters are…

“…Geographic concentrations of interconnected companies and institutions in a particular field.  Clusters encompass an array of linked industries and other entities important to competition [and] include governmental and other institutions– such as universities, standards-setting agencies, think tanks, vocational training providers, and trade associations– that provide specialized training, education, information, research, and technical support”  

If a company locates within a cluster that is relevant to its business, it will typically increase its competitiveness. Some authors claim that clustering explains the divergence of certain geographical growth patterns over the past 30 years. For example, some areas are thriving and can overcome even the worst recessions due to clustering activity.

Notable clusters in the United States are based on the location of natural resources (e.g., the oil industry, which is primarily located in Texas, Alaska, and Louisiana). The wine industry in California developed because of the region’s ideal weather conditions for growing grapes. Innovation hubs, not dependent on natural resources, are somewhat harder to explain. For example, many high-tech companies are located in Silicon Valley although the area does not actually produce silicon. Companies such as Google, Facebook, Apple, and others locate in the same region because they can access labor markets, network, and carefully follow industry trends. Thus, Silicon Valley has become a hub for this type of business and attracts people who are interested in working in this field.

This is just one example of why some companies remain in seemingly illogical locations. Some companies pick enormously expensive places such as New York, Boston, and San Francisco; one observer cites the following example of this decision:

To hire a skilled worker with a college education, eBay and Adobe must pay that worker $87,033 a year in San Jose, but a similar company based in Merced would need to pay only $62,411. In fact, if eBay and Adobe moved to Merced, they would end up paying less to hire a college graduate than what they are paying now to hire a high school graduate, which is $68,009.

While companies can cut costs by moving to less costly labor markets, they risk not finding the people and suppliers they need to develop their companies.

The growth of clusters and innovation hubs are dependent upon the populous of a location. Size matters; large population centers tend to have robust labor markets. Supply and demand for specific occupations are generally well balanced in highly populated locations. Labor markets that are thick (or have many buyers and sellers) are better at matching employers with workers; the ultimate match is generally closer to the ideal fit for both job seekers and those offering jobs. The economic returns of being in a thick labor market, as measured by increased earnings, are significant for professionals. Also, thick markets tend to be somewhat less susceptible to recessions and its workers are generally more productive because of the competitiveness for top jobs. Finally, thick job markets tend to benefit new firms because they can find skilled people to work in their firms more easily.

One research study found that well-educated professionals are increasingly gathering in larger cities; especially those in two-income households. In fact, some companies list a spouse’s employment as the biggest reason that employees turn down jobs requiring relocation. Thicker markets provide both partners with more opportunities.

Providers of specialized services also benefit from clusters; by moving to a cluster, firms can utilize specialized local suppliers. For example, high-tech firms can focus on what they do well without having to rely entirely on full-time employees. Geographic clusters reflect a virtuous cycle (i.e., the more you have, the more you get). Thus, firms relocating to clusters can take advantage of service offerings; simultaneously, the specialized services within the cluster benefit from the growth. This is the concept behind economic agglomeration.

Knowledge spillovers are yet another benefit of clusters. Innovation is not the product of the lone genius (despite popular press accounts to the contrary). The flow and diffusion of knowledge is facilitated by clusters, although these flows are somewhat invisible (i.e., leaving “no paper trail by which they may be measured and tracked”). Much research has shown that geographic proximity facilitates this tacit knowledge transfer. By clustering near each other, innovators promote each other’s creative spirits and motivation.

Innovation hubs apply to environmental sustainability in several ways. First, they tend to have plenty of technology development and innovation. Companies working on wind and solar technologies in Germany, for example, tend to be located in similar locations. However, clusters also create growth, which is an environmental challenge in any area. Growth in geographic locations calls for increased infrastructure, services, and the development of housing. For example, North Dakota has been through a series of booms and busts over the past several decades. A boom happened in the late 1970s, driven by rising oil prices; however, in 1999, there wasn’t a single rig drilling new wells in the state. By July 2012, monthly oil output reached almost 21 million barrels, making North Dakota the largest oil producer in the country after Texas. This recent boom has many environmentalists worried. For example, according to data obtained by ProPublica, oil companies in North Dakota reported over 1,000 accidental releases of oil, drilling wastewater, or other fluids (about as many as in the previous two years combined). Many more illicit releases went unreported, state regulators acknowledge, when companies dumped truckloads of toxic fluid along the road or drained waste pits illegally. This rapid growth has made regulatory oversight of companies much more difficult.

An Example of the Environmental Risks Created by Location

Rising sea levels are considered a primary cause of the erosion along the United States’ East Coast over the past century. As oceans start to rise faster, this will only get worse. Water is rising three times faster along the North Carolina coast than it did a century ago. Sea level is expected to rise another meter by 2020. The low, flat northeastern shore (including the popular Outer Banks) is among the nation’s most vulnerable places. North Carolina’s insured property losses from hurricanes averaged $10.6 million a year (in 2005 dollars) from 1949 to 1988. Between 1989 and 2005, the monetary value of losses was almost 30 times greater than the previous period (at $296 million per year).

One can only wonder who will pay for the remediation needed along the coast. For example, North Carolina state officials found that 68 percent of ocean beaches are eroding up to 15 feet a year. Sandbags now protect 352 homes and other buildings from creeping waters. Nags Head plans to split the cost of new sand (which is expected to last 10 years) between a county beach fund and a bond to be repaid by occupancy taxes. The necessary funds are still short $10 million. Other solutions (e.g., moving homes and businesses) are too costly.

With 325 miles of oceanfront and 5,000 miles of shoreline around its seven sounds, North Carolina has one of the most diverse coastlines. The Albermale and Pamlico Sounds form the second-largest estuary system in the lower 48 states, provide half of the nursery grounds for all saltwater fish between Maine and Florida, and nurture most of the state’s economically important seafood. Thus, the environmental challenges threaten the core economic and social fabrics of these communities.

Furthermore, commercial fishing in 2009 brought about $77 million to North Carolina (sport fisherman took home an additional 12 million pounds of fish), coastal tourists spent $24 billion in 2009 (more than a third of that was spent in the vulnerable Outer Banks), and the tourism industry employs 30,530 people. Also, almost $133 billion of the coastal property is insured (which brings major dollars to the insurance industry).   The industry has about an $81 billion USD exposure in North Carolina. Thus, coastal erosion has a major impact on the entire state of North Carolina.

The North Carolina coastline situation is one example of a cluster; participants in the food industry, tourism, recreation, and all of the supporting industries converge in a single location. As such, this is a good example of how environmental challenges play a role in business strategy and the potential of these challenges to upset industries, economies, and lives.

Adapted from Daniel S. Fogel (2016). Strategic Sustainability: A Natural Environmental Lens on Organizations and Management. New York, New York: Routledge: 243-247.

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