Agglomeration Economies and the Location of Foreign Direct Investment: Quasi-Experimental Evidence from Romania

Abstract

How important are agglomeration economies for the location of foreign manufacturing plants? We investigate this question by combining innovations from previous studies and by taking advantage of a quasi-experimental setting: the political and economic transition in Romania. The recent, sudden and sustained influx of foreign investors into Romania provides an ideal setting to disentangle agglomeration economies from endowment effects. Using a countylevel conditional logit set-up that controls for choice-specific fixed effects and endowment effects, we find that external economies from industry-specific foreign agglomeration and service agglomeration are important location determinants. Increases in the number of foreign plants and in service employment density by 10 percent make the average county 2.2 and 6.2 percent more likely to attract a new foreign investor. Local labor market conditions also matter. Our findings suggest that results are sensitive to the choice of geographical unit of observation and the inclusion of locational fixed effects.