Local Competitors Essay

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The standard  economic textbook  treatment of competition  gives the  impression  that  production and consumption take place on the  head of a pin, as if space did not matter. In reality, of course, space does matter, in ways that constrain the boundaries of competitive domains and the intensity of competition  in those domains. The resources  for which firms compete are not evenly distributed  in space, but are geographically clustered, often independent of political administrative  boundaries.  Agglomerations  such  as the wine industry in Southern California, the financial district of the City of London, the Indian film cluster in Mumbai, the surgical instruments cluster in southern Germany, or the boat building cluster in northern New Zealand  all conjure  images of highly localized business activities, supported  by locally specific institutions and social structures.

Local competition  may be understood from  two perspectives, with different predictions for the nature of business transactions.  Standard  economic  theory suggests that  within a given locale barriers  to entry are  lower  than  elsewhere  to  the  extent  that  labor skills, material and financial assets, information,  and other  inputs  are more  readily available locally. The presence of a large number  of firms in the region is predicted to increase business entry rates into the region because potential  business founders will view a large local business population  as an indicator  of market  and  investment  opportunities. By contrast, the  ecological  approach  to  competition   highlights the crowding effects of business populations. A large population  of firms, which all draw on the same or similar resources, is predicted  to depress firm entry rates. The more  firms’ market  domains  overlap, the more strongly they compete.  The addition  of a firm to  an  existing population  has stronger  competitive effects on firms in the same domain than on firms in more  distant  domains,  reducing  founding rates and increasing failure rates.

One way to reconcile these theoretical predictions is to consider the definition of competition  that they assume. Economic theory views rivalry more as a form of competition  among a narrowly defined population of firms, focusing on the social and cognitive aspects of competition. Local competitors, from this perspective, tend to orient their activities toward those firms they  perceive  as rivals. The ecological perspective, by contrast,  subscribes  to a less-social definition  of competition.  It highlights the more diffuse and indirect interdependence between firms that may or may not be directly aware of each other. Of course, economic rivalry and ecological competition  may operate jointly in a given setting. For example, firms may compete  globally in product  markets,  but locally in factor-input markets.

Research

Our  understanding of local competition   draws  on substantial  academic  research  that  typically falls in one of three categories. One line of research focuses on the geographic  distribution  of resources.  A second body of literature studies the flow of information across space. And a third body of research focuses on the level at which economic  aggregates can develop competitive advantage. While each of these literatures has a distinct focus, they share the argument that the optimal location of a firm depends  on the locations chosen  by the  firms with  which  it interacts.  Local competitive processes reflect the resource interdependence of firms.

Research on the geographic distribution of resources suggests that  the local availability of resources  influences the location decision of firms, evident, for example, in the spatial concentration of new business foundings.  Many of the resources  that  firms require to compete  effectively are considered,  from the perspective of the individual firm, more or less fixed in space. They include human  capital, special-purpose equipment,  and a range of specialized infrastructure services that are very difficult to transfer across large distances.  The market  is thus  said to  require  local coordination and control  of economic activities and a division of labor  between  independent but  interlinked producers.  Localized production systems are evident particularly in those industries  that face significant uncertainty,  such as software, design, fashion, and high-technology  manufacturing.  The negotiations involved in production and exchange in such industries  are  less easily carried  out  at  a distance. Many firms, therefore, remain local, and they depend strongly on their immediate competitive and institutional environments for economic  resources,  public support, and customer demand. The intensity of competition among firms is a function of the similarity in resource requirements.

Interestingly,  the location  of a firm relative to its competitors can increase both the intensity of competition  and the likelihood of cooperative  behavior. The possibility of and  need  for  collaboration  with local competitors is the focus of analysis of a second body of research,  which investigates flows of information  across firms and related organizations.  Geographic colocation of competitors makes it easier to observe and monitor competitors.  Managers are generally more sensitive to the strategies and actions of local competitors because of their limited capacity to collect information  on nonlocal competitors and the ambiguity of interpreting information from a distance. This suggests that managers focus on the actions and capabilities of competitors located in close vicinity.

Research shows that business networks tend to be localized because reliable information  is usually best conveyed through  direct, personal contacts. For this reason,  information  and  knowledge tend  to diffuse slowly through  space away from the point of origin. This process can affect the spread of new strategies and products, the adoption of innovations, and the diffusion of organizational  models. When combined with dependence on a common resource base and recruitment  from a common  labor pool, frequent  business interactions  tend to increase the level of information exchange among local managers, thus improving the awareness of the capabilities of local competitors.

A third line of research is concerned with the extent and form of local competition  (and cooperation)  as a source  of competitive  advantage, not  for individual firms but for the business population  in which they are located. Competitors outside the local production system do not have equal access to the cost advantages of local populations,  and  they struggle to maintain competitive  parity  with  the  clustered  competitors. The central argument  is that the sustained  competitive advantage of local populations of firms is based on knowledge that limits the spread of such knowledge to other populations  and regions. Such knowledge is often referred to as architectural knowledge, because it relates to the complex and intangible understanding of how the entire production system works. Such knowledge tends to develop as an inseparable part of the local production complex and is, therefore,  not easily transferable to other locales.

In   sum,   research   on   local  competition  suggests that geographic distance continues  to play an important role in economic  life. While technological advances  in  communication have reduced  the costs  of  economic  transactions   and  cross-border trade agreements  have led to the gradual softening of trade barriers, the transfer  of outputs,  labor, and information  has not become instantaneous or frictionless. Local transactions  are increasing  in many regions  around  the  world  even more  rapidly than global  transactions.   The  increased   sophistication and  differentiation  of goods and  services in many industries  requires  an increasing  number  of transactions and creates local interdependencies that are nontradable.  This explains why there  will continue to be regional disparities in economic development.

Bibliography:  

  1. Arindam Bhattacharya and David C. Michael, “How Local Companies Keep Multinationals  at Bay,” Harvard Business Review (v.86/3, 2008);
  2. Michael T. Hannan and John Freeman, Organizational Ecology (Harvard University Press, 1989);
  3. Gard Hopsdal, “The Far Side of International Business: Local Initiatives in the  Global Workshop,” Journal of Economic Geography (v.8/1, 2008);
  4. Paul R. Krugman, Geography and Trade (MIT Press, 1991);
  5. Michael E. Porter, The Competitive  Advantage of Nations (Free Press, 1990);
  6. Baruch Shimoni, “Separation, Emulation and  Competition—Hybridization Styles of Management  Cultures  in Thailand, Mexico and Israel,” Journal of Organizational Change Management (v.21/1, 2008).

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