Does Geography Matter?

In a world of high-speed data and voice networks, web-enabled applications, and a global talent pool, does geography matter?

Will technology break down traditional industry clusters and distribute innovation, wealth, and opportunity across an increasingly flat world?

As an investor and resident in the Valley, it is an important question.

Should company founders leverage the benefits of operating in a high-tech cluster and pay the cost premium of doing business here, or should they leverage the benefits of enabling technologies and remain in lower cost geographies?

The work of Michael Porter helps think through the issues. In his HBR article, "Clusters and the New Economics of Competition," he lays out a convincing argument for the long-term viability of clusters.

He defines clusters as,

"geographic concentrations of interconnected companies and institutions in a particular field. Clusters encompass an array of linked industries and other entities important to competition. They include, for example, suppliers of specialized inputs such as components, machinery, and services, and providers of specialized infrastructure."

His core thesis is that advantage in the global economy lies increasingly in local things - knowledge, relationships, and motivation.

Traditionally, competition centered on input-cost advantages - natural and human resources. Today, however, competition rests more on the productive use of inputs, which requires continual innovation. He writes, "modern competition depends on productivity, not on access to inputs or the scale of individual enterprises."

He defines the following characteristics of a cluster that accelerate productivity:

• sourcing of information, technology, talent
• coordinating with related companies
• measuring and motivating improvement
• better access to employees and suppliers
• access to institutions and public goods (venture firms, lawyers, universities)
  
• complimentarities
  
• co-optition, cluster promote both competition and cooperation
  

Clusters also directly support new business formation. Porter argues that working in a cluster allows individuals to more easily identify gaps in the current market offerings, enables efficient access to talent, institutions, partners, etc, and a home-grown exit market (ie established members of the cluster are the likely acquirer).

The most important insight for me is that the modern economy competes on innovation and that operating within a cluster shortens the cycle time to identifying, resourcing, and realizing areas of need and opportunity.

The genesis for this post was a conversation I had with two founders, currently based in Atlanta, about the merits of moving to the Bay Area to start their company. Michael Porter's thoughtful analysis helps me better understand why the Bay Area "cost premium" is well worth it. Market cap is a function of innovation and growth, and innovation is a function of access to ideas, talent, and supporting resources that eliminate frictions and catalyze connections and progress.

Ironically, in an increasingly globalized economy the Valley is gaining not waning in prominence. Boston is now the home to one large public tech company, EMC, and the valley takes close to 40% of total US VC, with CA taking well over 50%.

The key to our magic innovation machine is not to let government policy limit the free flow of talent, energy, and ideas into the cluster. It is incumbent on all beneficiaries of the Bay Area cluster to promote truly free labor markets that serve to fuel our unique productivity and innovation.