Agglomeration economies and Firm Financial Performance: Evidence from Central and Eastern Europe

Strategic management studies’ main focus is to find the root cause for the difference in firms’ performance. Notwithstanding the large body of research that has shown the effects of agglomeration economies on economic growth, findings on how firms’ geographical locations affect profitability remain ambiguous. Aggregate analyses on both a region, city or industry levels appear insufficient and the information on micro-level effects is lost. Applying a multi-level approach of hierarchical linear modelling, the firm-, club-, and region-specific effects on two profitability indicators of approximately 168,000 firms for 2015 are estimated. The establishments are active in the manufacturing industry and are located across fifty-five NUTS 2 regions of eleven Central and Eastern European countries. The results reveal that the dominance of the total variance in firm accounting profitability is attributed to firm-level effects, while club- and region-level effects contribute with up to 1.7% and 1.1% to the total variance respectively. Moreover, agglomeration economies, as measured by urbanization and localization economies, were found to be significant firm profitability drivers in the regions under investigation. Although, club and regional effects cannot explain a substantial part of the variance in firm profitability, these effects should not be underestimated since even 2-3% variance can lead to a significant variance in the aggregate profit in a highly concentrated region.