Economies of agglomeration

Economies of agglomeration (also called agglomeration economies or agglomeration effects) are productivity and cost advantages that arise when firms, workers, consumers, and other economic activity are located near one another. They are a central topic in urban economics, economic geography, and regional science, and help explain why economic activity is geographically concentrated in cities and industrial clusters.

Agglomeration refers to the spatial concentration of economic activity, whereas agglomeration economies refer specifically to benefits generated by that concentration. They are generally treated as external economies of scale, because a firm or worker may become more productive as surrounding economic activity increases even when the firm itself does not become larger.

Agglomeration economies can arise from the concentration of firms within the same industry, commonly called localization economies, or from the overall scale and diversity of a city, commonly called urbanization economies. The mechanisms producing these benefits include access to specialized suppliers and infrastructure, labor-market pooling and matching, and the creation and diffusion of knowledge.

The benefits of concentration are counterbalanced by diseconomies of agglomeration, including congestion, high land and housing costs, crowding, and exposure to pollution. The balance between these benefits and costs helps determine the size, density, and spatial organization of cities.