# 11-085/3 (2011-06-06)

Hans Koster, VU University Amsterdam; Jos N. van Ommeren, VU University Amsterdam; Piet Rietveld, VU University Amsterdam
Sorting; Agglomeration Economies; Specialisation; Diversity; Heterogeneity; Semiparametric Estimation
JEL codes:
R12, R14, R39

This paper examines the effects of specialisation (within-sector clustering) and diversity (between-sector clustering) on business services profitability and location choice. We apply a semiparametric Poisson sorting model allowing for firm-specific effects. We find that for most firms, profitability of business services firms is substantially higher close to specialised clusters of business services firms. A standard deviation increase in business services specialisation leads to on average a 40 percent increase in the probability that a business services firm locates there, supporting theories of Marshall, Arrow and Romer. It is also profitable for most business services firms to locate near a group of firms that belong to the same sector, not necessarily business services firms, so diversity is negatively related to location decisions. Almost all firms either benefit from within-sector clustering or between-sector clustering. Within-sector clusters are particularly profitable for large mature firms, whereas between-sector clusters are relatively more profitable for smaller innovative firms.