Influence of Industrial Location on Firms Cost - Literature review Example

Influence of Industrial Location on Firms’ Cost There are a number of factors influencing the choice of location for the industry. The ultimate goal is to produce the product with the least possible cost. Today’s era is of the competition. The customer demands the product with least price and the best quality. The firms are very much aware about these facts and hence they carry out an extensive survey, study and research before starting the industry. According to Industrial Location Notes, Sometimes firms have to decide where to build a new factory. It is important to consider the different costs of different locations. Businessmen take into account the natural and acquired advantages of a particular area. Natural Advantages: An area may have a water source for waste disposal or cooling. An area may be flat or isolated and attract dangerous or unpleasant industries. An area may have the right climate for the production of a good. Weight-losing industries use bulky raw materials to produce a compact finished product and tend to locate near the source of raw materials. Acquired Advantages: An area may have developed a number of advantages as the result of firms locating in the region. These are called external economies of scale. Weight-gaining industries use compact raw materials to produce a bulky finished product and tend to locate near the major market for the good. Footloose Industries: A footloose industry gains no particular advantage from any one location usually because transport costs are the same for each site. Industrial inertia occurs when a firm continues to expand on its existing site even though there are cheaper alternatives. (1) As per Concepts in Stutz, for the manufacturing firm: 1. The cost of land has favored suburban location of manufacturing firms. 2. Motor freight and Interstate highway system have reinforced outlying locations. 3. The cost of labor is important but varies considerably among industries and across countries. 4. The cost of capital is not uniform among countries, especially with respect to fixed capital (relative to flexible capital). 5. Managerial and technical skills are not mobile although, theoretically, they should be easier to move than labor in general. In fact, managerial and technical skills are highly concentrated (2-3). According to Madsen the geographical agglomeration of firms within industries is distinct in many countries. He gives the example of auto industries clustered around Detroit in USA and Turin in Italy (1). Then we have high- tech industries settled in Silicon Valley at San Francisco and around Boston in USA. The geographical agglomeration may result either due to firm’s localization decision or due to higher survival rates among the firms in cluster (Madsen, 1). Growth Point: Studies have shown that clusters often consists of many local firms in intense competition within the same industry, this increases the innovative capability of the cluster and incentive to develop new products of a better quality and more efficient production facilities. The different industries with their different technologies create an opportunity for creative thinking and new innovation when the ideas flow between the industries. The high tech clusters are not necessarily industry -specific, but could span over several technological unrelated industries (Madsen, 4) As per the studies carried out by Madsen in Denmark, “Productivity advantages for the firm belonging to horizontal firms are about 8%. However, productivity advantages of the cluster differ a lot across different industries. The advantage is highest for the firms manufacturing textile and lowest for firms manufacturing machinery and equipment” (12). Transport: According to chapter –9, In considering the location of industry, entrepreneurs must account for costs of transportation from raw material sites to the centers of consumer population. Certain areas of the world will tend to have higher costs of transportation than other parts. Wheat is further away in New York than in Kansas, and the theater further away in Kansas. Some areas may enjoy lower transport costs for the bulk of consumers’ goods, while others may have higher transport costs. Thus, Alaska will probably have higher transport costs for its consumers’ goods than less remote areas such as San Francisco. Therefore, to obtain the same products, Alaskan consumers must be willing to pay higher prices in Alaska than in San Francisco, even though purchasing power and prices are uniform throughout the world. As a result, the “cost component” for anyone working in Alaska will be a certain positive amount. Because of the transport problem, the same money wage in Alaska will buy fewer goods than in San Francisco. This increased “cost of living” establishes a positive cost component in the wage, so that for similar labor a worker would require a higher money wage to work in Alaska than elsewhere. In proportion as firms are more distantly located from the consumer, they will then not be able to remain in business unless their average costs at the mill are sufficiently lower than those of their competitors to compensate for the increased freight costs. This is not, as might be thought, a “penalty” on the “technological superiority” of the distant firm, for the latter is inferior with respect to the important economic factor of location. It is precisely this mechanism that helps to determine the location of firms and assures that firms will be economically located in relation to the consumer. The influence of the location-difference factor in the price of a product will, of course, depend upon the proportion that freight costs bear to the other costs of producing the good. The higher the proportion, the greater the influence. A firm with a location closer to the consumer market therefore has a spatial advantage conferred by its location. Given the same costs in other fields as its competitors, it earns a profit from its superior location. The gains of location will be imputed to the site value of the ground land of the plant. The owner of the site obtains its marginal value product. Therefore, gains to a firm resulting from improvement in locational advantage, as well as losses resulting from a locational disadvantage, will accrue as changes in ground rent and capital value to the owner of the specific site, whether the owner be the firm itself or someone else. (1) Environment: Since 1960 there have been substantial increase in the environmental regulations faced by the U.S business. These regulations are primarily defined at the national level but much of the implementation and enforcement is done by state regulatory agencies. Some states regulate pollution more stringently than others; businesses in one state may have competitive advantage over those in other state. There is a concern that due to strict environmental laws many industries may shift outside US to countries where environmental law enforcement is lax, in fact, this has already started. Past research has not found that pollution regulation is of overriding concern in determining the plant location, although it does play some role (Gray, 1-2). Empirical studies have sometimes found effects of regulation on location, but generally small ones. As per the previously carried out survey among the Fortune 500 companies between 1972 to 1978, there is no effect of state spending on pollution control regulations, manufacturing on pollution abatement, or particulate emissions regulations. They find small impact of SMSA’s attainment with federal ozone standards, and no impact of state regulation expenditures and or manufacturing abatement expenditures (Gray, 2). Federal regulations require states to develop plans to improve air quality in counties which fail to meet federal air quality standards. These state plans involve stricter regulation of emissions from both existing and new sources. A recent study on impact of air quality found reduction in presence of air polluting industries and slower growth in manufacturing employment in non-attainment counties (Gray, 3). Other studies considering the impact of pollution regulations on businesses along other dimensions have found significant effects, which might be expected to influence new plant location. There is negative impact of manufacturing abatement costs on SMSA earnings and employment growth. It is also found that OSHA and EPA regulations tend to reduce profits in heavily regulated industries. Steel plants facing greater air pollution enforcement activity are significantly more likely to close (Gray, 4) Gray himself made one study to examine the changes in location of the manufacturing from 1963 to 1987, based on the Census Bureau’s plant level Longitudinal Research Database. The results give some support for the idea that new plants tend to locate in areas with less strict regulation. Some of the results were puzzling though like the one which observed that connection between regulation and location is not noticeably stronger for plants in highly pollution intensive industries than it is for all manufacturing plants. Works Cited Gray, Wayne. B, Clark University, National Bureau of Economic Research. “ Manufacturing Plant Location – Does State Pollution Regulation Matter?” 22 March 2006 < http://webserver01.ces.census.gov/index.php/ces/1.00/cespapers?down_key=100280> Madsen Erik Stroger, Valdemar Smith, Mogens Dilling – Hansen. “Industrial Clusters, Firm Location and Productivity. 22 March 2006. < http://e-innovation.org/stratinc/files/library/1.pdf> Concepts in Stutz chapter –8. Chapter-8 Location of Industrial Firms. 22March 2006. < http://business.baylor.edu/Tom_Kelly/Concepts%20in%20Stutz%20chapter%208.doc> Industrial Location Notes. Bized. < www.bized.ac.uk> JISC. 22 March 2006. < http://bized.ac.uk/learn/economics/firms/locationnotes.htm#Heading70> Chapter 9—Production: Particular Factor Prices and Productive Incomes (continued). Man Economy and State. Ludwig von Mises Institute.< http://mises.org/>. 22March 2006. < http://mises.org/rothbard/mes/chap9d.asp> Read More