FDI Impacts On Industrial Agglomeration: The Case Of Java, Indonesia
| Pages | 65-77 |
| Published date | 21 May 2009 |
| Date | 21 May 2009 |
| DOI | https://doi.org/10.1108/15587890980000412 |
| Author | Mudrajad Kuncoro,Sari Wahyuni |
| Subject Matter | Strategy |
Journal of Asia Business Studies SPRING 2009 65
INTRODUCTION
During the last century, geographers, economists, urban planners,
business strategists, regional scientists and other social scientists have
developed explanations as to why and where economic activities lo-
cate (for example Krugman, 1991, Kuncoro, 2000, O’Sullivan, 1996,
Porter, 1998). An uneven regional distribution of economic activity
within a nation has been a primary concern, and hence, encouraged
increasing research in this field. There are three major theories that
explain why and where firms tend to concentrate geographically in a
certain region: neo-classical, new economic geography and new trade
theory. From a theoretical perspective, we expect that some basic ag-
glomeration forces are at work in the region. Each theory has offered
some valid hypotheses. Yet there is virtually no rigorous empirical
work that assesses the relative importance of these three theories.
This paper examines which theory is best at explaining the geo-
graphic concentration in Java, in particular in the period of trade
liberalisation. There has never been a comprehensive study on indus-
trial agglomeration that takes Indonesia (that is Java) as a case study
and uses the recent framework of the new economic geography and
the new trade theory. We focus our analysis on Java for the following
reasons. First, main industrial areas in Indonesia have been located
overwhelmingly in Java. Most of Indonesian moder n manufacturing
establishments have continued to be predominantly located on Java
and to a much lesser extent, Sumatra Island during 1976-2002. Even
when we classify 27 provinces of Indonesia into five main islands
FDI Impacts On Industrial Agglomeration: The Case Of Java,
Indonesia
Mudrajad Kuncoro
Gadjah Mada University
Sari Wahyuni
University of Indonesia
absTRaCT
This paper attempts to examine which theory is best at explaining the geographic concentration in Java, an island in which most
of the Indonesia’s large and medium manufacturing industries have located overwhelmingly. Our previous studies on Java have
found that there was a stable—albeit increasing trend— and persistent geographic concentration in Java over the period 1976-
1995. Yet some critical questions exist: Why geographic concentration in Java persisted during this period? To what extent relevant
theories and empirical literature can be used as an explicit test of competing theories on agglomeration forces? In answering those
questions, we compare the three major grand theories of geographic concentration: Neo-Classical Theory (NCT), New Trade Theory
(NTT) and New Economic Geography (NEG). Using the regional specialization index as a measure of geographic concentration of
manufacturing industry and pooling data over the period 1991-2002, our econometric analysis integrates the perspectives of industry,
region (space) and time. We further explore the nature and dynamics of agglomeration forces underpinning the industrial agglomera-
tion in Java by testing some key variables. Our econometric results rejected the NCT hypotheses and showed that the NTT and NEG can
better explain the phenomena. It’s apparent that manufacturing firms in Java seek to locate in more populous and densely populated
areas in order to enjoy both localization economies and urbanization economies, as shown by the significance of scale economies
and income per capita. The former is associated with the size of a particular industry, while the latter reflects the size of a market in a
particular urban area. More importantly, the results suggest that there is a synergy between thickness of market and agglomeration
forces. The interplay of agglomeration economies is intensified by the imperfect competition of Java’s market structure. We find that
Java’s market structure may restrict competition so that firms tend to concentrate geographically. Instead of providing some important
recommendations for local and central governments and practical implications for investors and manufacturing firms, this paper gives
empirical evidence with respect to path dependency hypothesis. The finding supports the NEG’s belief that history matters: older firms
tend to enhance regional specialization.
Keywords: Agglomeration, Concentration, FDI, NTT, NCT, NEG
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