FDI Impacts On Industrial Agglomeration: The Case Of Java, Indonesia

Mudrajad Kuncoro, Sari Wahyuni

Research output: Contribution to journalReview articlepeer-review

10 Citations (Scopus)

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 1991-002, 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 agglomeration 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.

Original languageEnglish
Pages (from-to)65-77
Number of pages13
JournalJournal of Asia Business Studies
Volume3
Issue number2
DOIs
Publication statusPublished - 21 May 2009

Keywords

  • Agglomeration
  • Concentration
  • FDI
  • Neo-classical theory
  • New economic geography
  • New trade theory

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