Chapter 6

Chapter 6
Industrial Clusters and the Five Drivers of

Regional Productivity in Egypt
Enas Moustafa Mohamed Abousafi, Mohamed Abouelhassan Ali
and Jose Louis Iparraguirre
Abstract
This chapter applies the five drivers of productivity framework to regional
microdata for Egypt and extends it by introducing an index of industrial
clusters as an explanatory factor of the productivity performance of local
private sector firms. Applying structural equation models, the geographic
concentration of sectoral economic activity is found to have a positive and
statistically significant effect on labor productivity. The transmission
mechanism is conjectured to be the positive spillovers that are created, which
local firms can tap into. In contrast, a higher concentration of skilled
workers in an industrial sector in a region is associated with lower levels of
labor productivity – a finding that suggests there may be structural defi-
ciencies in the allocation of skilled workers. Regional policy should focus on
net investments in gross capital formation throughout the country, for which
the national and regional governments should improve how public invest-
ments are managed and the institutional framework – including the rule of
law, bureaucracy and red tape, conflict of interest, transparency, and
governance – so that private investment (both local and foreign) may sub-
stantially increase.
Keywords: Labor productivity; regional studies; Egypt; industrial clusters;

local economic performance; structural equation models
Introduction
On the surface, the recent performance of the Egyptian economy can be termed a
modest success: employment has grown by 5.7% between 2015 and 2020, which
Industry Clusters and Innovation in the Arab World, 157–203

Copyright © 2023 Enas Moustafa Mohamed Abousafi, Mohamed Abouelhassan Ali and
Jose Louis Iparraguirre
Published under exclusive licence by Emerald Publishing Limited
doi:10.1108/978-1-80262-871-520231008
158 Enas Moustafa Mohamed Abousafi et al.
with a slight reduction in the working-age population has led to an increase in the
employment-to-population ratio to 40.8% and in the overall employment rate to
over 92%. However, as the World Bank has pointed out, most of these jobs were
created in relatively low productivity sectors (World Bank, 2020). Labor pro-
ductivity is one of the key indicators of economic performance and one of the
main variables fostering sustainable economic growth.
It should come as no surprise that, as a result, many theoretical approaches
have been developed to study its underlying processes. Among these, the “five
drivers” framework – introduced by the UK government in 2000 – is a
policy-focused framework that has been extensively used to guide regional growth
policy and industrial strategy in other countries such as Malaysia, India, or New
Zealand. Moreover, the World Bank and the Asian Development Bank have
applied it to assess productivity performance across its member countries (ADB,
2021; Kim, Loayza, & Meza-Cuadra, 2016; Kim & Loayza, 2019).
This framework identifies five “structural influences on industrial perform-
ance” (UNIDO, 2002, p. 34) or priority areas for policy action to promote pro-
ductivity levels and growth, which are usually defined as investment, skills,
innovation, entrepreneurship, and competition (Some authors use slightly different
terminology to refer to some of the drivers as, for example, “market efficiency”
instead of competition). These drivers would conform the conditions that prevail
in the environment or the immediate proximity of productive establishments
(Maskell, Eskelinen, Hannibalsson, Malmberg, & Vatne, 2002). One key
contributing factor to regional productivity that is left out of the framework is the
existence of industrial clusters. Theoretical developments suggest, and empirical
findings have largely confirmed, how important the agglomeration of firms within
industries is for the development of regions (Cohen, Coughlin, & Paul, 2019;
Combes, Duranton, Gobillon, Puga, & Roux, 2012; Dogaru, Van Oort, &
Thissen, 2011; Rosenthal & Strange, 2004).
Given the importance of industrial agglomeration for regional economic
growth and the strong relationship between labor productivity and economic
growth, this chapter extends the theoretical framework with the addition of
indicators of industrial clustering to the five drivers of productivity at one regional
level: the 27 governorates of Egypt. The objective is to address the following
research question: Do levels of industrial agglomeration at regional level influence
labor productivity in the region once the five drivers are taken into account? We
do not intend here to expand the framework to include a “sixth” driver, as this
would require a theoretical development that exceeds the objective of this chapter,
but to suggest that industrial clusters should be taken into consideration when
designing regional and industrial policies and thus setting a point in the future
research agenda on regional development.
To achieve this objective, regional location quotients were calculated based on
firm and sectoral levels of workers, establishments, investment, and output. The
industrial clusters resulted from proximity matrices obtained following the
Hausmann–Klinger (Hausmann & Klinger, 2007) technique. The data analysis
resorted to structural equation modeling (SEM), as the five drivers framework
proposes the interrelationship between its components, and consequently, to take
Drivers of Regional Productivity 159
into account the covariances between independent variables is of crucial

importance.
Following this introduction, section “The Five Drivers of Productivity”
introduces the five drivers framework and section “Industrial Clusters and Pro-
ductivity” briefly surveys the literature on industrial clusters and productivity.
Section “Data and Statistical Methods” describes the data and statistical methods
used in this research, whose results are discussed in section “Results”. Section
“Final Comments” presents some final comments.
The Five Drivers of Productivity

Productivity at a macroeconomic level is measured as the ratio between gross
domestic product (GDP) and either the total hours worked or the total number of
workers. From a microeconomic perspective, it is the relationship between the
amount of output per input by a firm, establishment, business unit, or individual
factor of production. The theoretical framework of the five drivers of productivity
rests on the empirical evidence about the impact of each driver on productivity,
rather than on evidence of the joint effects on productivity of the five drivers
considered together. Iparraguirre (2008) is the first attempt empirically to estimate
the relative contribution of each driver to regional labor productivity and their
interrelationships; using data from the United Kingdom, that study largely con-
firms the validity of the assumptions behind the five drivers framework. The
framework also stems from wider theoretical approaches. In this regard, both
neoclassical and endogenous growth theories would support the claim that each of
the five drivers contributes to regional labor productivity, whereas the disputes
would center around their relative importance.
In neoclassical exogenous growth models, productivity growth in the long run
is only due to technical progress driven by exogenous innovations that avoid
diminishing returns on investments. These innovations may be the outcome of
basic research (Shell, 1967) but are not limited to physical capital: investments in
human capital not subject to long-run diminishing returns (the outcome, for
instance, of learning by doing; Arrow, 1962; Romer, 1986) would also be
included, thus pointing to the role of another of the five drivers in the framework
– namely skills. For a country such as Egypt, innovations may constitute, in
theory, a source of exogenous productivity growth if they are assumed to origi-
nate in more industrialized and developed countries and somehow diffused or
trickled down to the country – a very much contested proposition (Grossman &
Helpman, 1993). Regional differences in attraction and absorption within the
receptor country could explain varying levels of productivity, albeit in the long
run, there should be convergence in productivity across regions.
Endogenous growth theories (Basile & Usai, 2015; Izushi, 2008; Martin &
Sunley, 1998; Stimson, Stough, & Nijkamp, 2011) claim that differences in
regional productivity are the result of differential levels in the knowledge base and
the mix of skilled and nonskilled dependent industries across regions. Conver-
gence is not necessarily a predicted long-term outcome, as reinforcing effects may
attract relatively higher skilled workers toward more productive regions, thus
perpetuating spatial productivity differentials. The new economic geography
models (Fujita, Krugman, & Venables, 2001; Fujita & Thisse, 2002) place their
focus on the role of externalities and increasing returns on knowledge and
innovation on productivity levels. The more likely long-term outcome, according
to these models, is the consolidation of areas within countries with relatively high
productivity (the “core”) alongside areas exhibiting lower productivity levels (the
“periphery”).
Despite their differences, these theories agree on the importance of the five
drivers for regional productivity. Closely related to the five drivers framework, the
“pyramid” model of regional competitiveness identifies the following sources of
labor productivity: research and development (R&D); the development of small
and medium enterprises; foreign direct investments; infrastructure and human
capital; and institutions and social capital (Gardiner, Martin, & Tyler, 2006;
Lengyel, 2004). We can see the commonality between these sources and the five
drivers of productivity: investment, skills, innovation, and entrepreneurship are
included in both approaches. In turn, while the five drivers framework adds
competition, the pyramid model points to institutions and social capital.
Inter- and intraregional technological dependence has also been identified as a
source of regional disparities in productivity (Behrens & Thisse, 2007; Ertur &
Koch, 2007; Howitt, 2000). Most models in this line of research propose that
technological interdependence depends on the level of accumulated skills in the
workforce and on the density of technology within a region compared to other
(usually, neighboring) regions. A related literature introduces the notion of the
technological frontier, that is, the average regional knowledge level. Whether all
regions share one same national or global frontier, or whether there are regional
frontiers specific to each region, R&D efforts and human capital investments
would constitute the key elements behind the level of proximity to the frontier that
each region would exhibit. Again, we can see the preeminence given by these
theories to two of the five drivers of regional productivity: skills and innovation.
The remainder of this section briefly surveys the theoretical and empirical
tenets behind the selection of each driver to assess the rationale for their inclusion
in the framework.
Investment
Investment in physical capital (i.e., in tangible assets such as public infrastructure,
consumers’ and government durables, land, machinery, and equipment) is a key
factor of economic growth. Apart from its direct effects on productive capacity,
investment can also foster productivity through raises in the marginal product of
the capital stock. Jorgenson (2005) found that capital accumulation explains over
50% of total economic growth in the United States between 1948 and 2002 and
over 57% of all GDP growth between 1995 and 2001 in Canada, the United
Kingdom, France, Germany, Italy, and Japan. Bassanetti, Döpke, Torrini, and
Zizza (2006) estimated that capital deepening had decreased in France, Italy, and
Germany between the mid-1990s and the mid-2000s; however, it had contributed
by about 40% to labor productivity growth over the same period.
In a study of developed countries over a period of 100 years, Bradford DeLong
and Summers (1991) found that increasing investment in machinery and equip-
ment by 1% increased GDP per capita by 0.7%. Similarly, Abdi (2008) analyzed
data for 20 industries in Canada between 1961 and 2000 and obtained an elas-
ticity coefficient of output to machinery and equipment investment of 0.67. More
recently, Forgione and Migliardo (2022) found diverging gaps in labor produc-
tivity among firms that adopt advanced technologies compared to those that do
not across Italy.
Carroll and Weil (1994) and Blomström, Lipsey, and Zejan (1996) contended
the direction of the reported positive association between investment in physical
capital and economic growth: causal mechanisms would operate from growth to
investment. In turn, Mankiw, Romer, and Weil (1992) claimed that investment
has no long-run impact on economic growth. Furthermore, Podrecca and Car-
meci (2001) reported a negative causal relationship between investment and
economic growth – a result in line with the neoclassical growth model (Solow,
1956).
Studies on the relationship between the formation of capital stock and regional
labor productivity must distinguish between investments by private firms and
public investment in infrastructure – a distinction that scholars using aggregate
macroeconomic indicators such as the investment ratio fail to make. This chapter
focuses on the former, benefitting from microdata at establishment level.
Mounting evidence indicates that it is intrafirm productivity growth rather than
public investment, which drives most of regional growth (Le Gallo & Kamar-
ianakis, 2011; Villaverde & Maza, 2008).
Claims of a positive relationship between investment in physical capital by
private firms and productivity rest on the embodiment hypothesis: innovations are
incorporated into the production process only as part of material, tangible capital
goods; successive vintages of capital would also embody technological progress.
Work that focuses on regional and industrial policy levers, such as investment
subsidies, reports positive and significant effects of these fiscal tools on regional
productivity (Korzhenevych & Bröcker, 2020; Mitze, 2012).
Skills
Investing in human capital may positively contribute to productivity since a more
skilled workforce is likely to be more productive. The two main strands of
thought about the relationship between human capital and economic growth and
productivity are that (1) growth and productivity depend on the rate of accu-
mulation of human capital (Lucas, 1988) and that (2) growth and productivity
depend on the stock of human capital (Nelson & Phelps, 1966).
The association between human capital and regional productivity is also
proposed by the labor pooling hypothesis: denser labor markets, where firms are
more able to employ and better match workers with industry-specific skills to their
needs from the existing regional pool of labor supply, would positively contribute
to the productivity levels in the region (Krugman, 1991). Labor pooling would
also be one of the processes leading to the formation of regional industrial
agglomeration, as firms would seek to reduce and better adapt to idiosyncratic
shocks (Overman & Puga, 2010).
Finally, studies that look into regional skill shortages report a negative asso-
ciation between skills gaps and regional productivity (Horbach & Rammer, 2021;
Morris, Vanino, & Corradini, 2020).
Innovation
Recent years have seen a growing number of studies examining the impacts of
innovation on productivity. Several of these studies examined the impact of process
or product improvements on performance outcomes and productivity (Fu, Mohnen,
& Zanello, 2018). Fagerberg, Srholec, and Verspagen (2010) examine the literature
and show that nations that innovate more are more productive and wealthier than
those that lack innovation. Developing countries, where infrastructure is insufficient,
markets are immature, and customers have a limited amount of discretionary cash,
are particularly susceptible to this challenge. Because they have limited absorption
capacity and limited access to financial and expertise resources, micro-, small-, and
medium-sized enterprises – many of them in the informal sector – are particularly
vulnerable in such an environment. Innovative enterprises that are able to effectively
utilize the available resources will have the best chance at surviving and dominating
the market (Fu et al., 2018).
Using case studies of small- and medium-sized enterprise (SMEs) in Tanzania,
Mahemba and Bruijn (2003) found that innovation and growth are linked in small
manufacturing companies. In their research on the importance of innovation in
Ethiopian SMEs, Bigsten and Gebreeyesus (2009) found that innovators create
employment faster than noninnovators. The study by De Mel, McKenzie, and
Woodruff (2009) uses a large dataset of SMEs in Sri Lanka to find a connection
between innovation and productivity. Therefore, literature has shown that innovation
is one of the most important factors of performance effectiveness and productivity.
In the latest (fourth) edition of the Oslo Manual published by the Organisation
for Economic Co-operation and Development (OECD) and Eurostat (OECD,
2018), the term “innovation” is used to refer to both activity outcomes and the
activities themselves. It is defined as follows:
. . .a new or improved product or process (or a combination

thereof) that differs significantly from the unit’s previous
products or processes and that has been made available to
potential users (product) or brought into use by the unit (process).
OECD (2018, p. 20)
The Oslo Manual distinguishes four types of innovation activities: product

innovations, process innovations, marketing innovations, and organizational
innovations. In recent decades, it has become increasingly important to

comprehend innovation as a phenomenon. Because of the rapid pace of techno-
logical change, innovation has become one of the most important factors in
economic development and knowledge. On the other hand, it was proposed that
the fundamental cause of regional imbalance was unequal distribution of inno-
vative activity (Capello, 2015). According to Capello (2015), in times of labor and
capital overmobility, knowledge, intangibles, skills, and innovative capabilities
remain crucial to a local economy’s viability.
Acs, Anselin, and Varga (2002) pointed out that measuring innovation inputs
and outputs is fundamental for analyzing how knowledge and innovation func-
tion in the regions and thus in the economy. According to these authors, tech-
nological change measures traditionally include three primary elements of the
innovation process: a measure of innovation inputs, a measure of an intermediary
product of innovation, and a measure of innovative output.
Varga and Horváth (2015) noted that proxy measures of innovation include
R&D expenditures, scientific publications, patent applications, products for
innovation, and total factor productivity, as well as regional technological start-
ups, technological efficiency, regional knowledge dissemination (outward
knowledge stock), innovative output, and the start-up rate of either high-tech or
technology firms. Although regional innovation performance measures are
diverse and are influenced by several factors and indicators, the main proxies used
in literature to measure the output of knowledge and innovation production are
patents, R&D, and innovation products (Ali, 2021).
Consequently, patents provide a reliable measure of innovation, which provides
the idea with a better chance of success (OECD, 2004). Patent applications or granted
patents have been used as proxy indicators for innovation in previous empirical
literature, but not all inventions and innovations result in patents. In several studies,
this indicator has been shown to be an accurate measure of innovation performance
(Acs et al., 2002; Hong & Su, 2013; Jaffe, Trajtenberg, & Henderson, 1993; Wang &
Lin, 2013). It illustrates how new knowledge is enabling innovation to drive eco-
nomic growth and regional development (Acs et al., 2002).
Acs et al. (2002) suggest that patent counts are an effective method to measure
regional innovation, technological advance, and capability. Furthermore, it was
revealed that patents contribute to a substantial level of innovation at the industry
level through regional activity.
Though some studies indicate that patent data are less reliable, in fact, there is
no other method to measure innovation outputs in Egypt. Furthermore, several
studies at firm level report the importance of firm characteristics in explaining the
link between innovation and productivity (Crescenzi & Rodrı́guez-Pose, 2011;
Falk & Figueira de Lemos, 2019; Griffith, Redding, & Van Reenen, 2003;
Heshmati & Kim, 2011; Lehto, 2007; Lindqvist, 2009; Lokshin, Belderbos, &
Carree, 2006; Vieira, Neira, & Vázquez, 2011). One conclusion that can be
derived from this strand of the academic literature is that in-house R&D activity
stimulates innovation and productivity and enhances the firms’ absorptive
capacity needed to derive benefits from the externally acquired R&D. Therefore,
patent applications may serve as a proxy for firm characteristics that influence the
level of innovation-led R&D activities within firms in a given region. As a result,

in the current study, patent applications were used as a proxy for more accurate
statistical analysis and more robust statistical results.
Entrepreneurship
Firms are traditionally included as the fourth factor of production, alongside
natural resources, capital, and labor. Audretsch and Keilbach (2006, p. 60) define
“entrepreneurship capital” as “the capacity for economic agents to generate new
business startups.” The importance of enterprises for production activity is that
they organize the other factors. Van Stel, Carree, and Thurik (2005) identify three
entrepreneurial roles: the innovator, the opportunity seeker, and the risk-taker.
The innovator role is usually ascribed to Schumpeter (1911): the creative
destruction process by which new inventions turn existing technologies obsolete
(the so-called Schumpeter Mark I regime) and the positive feedback loop between
innovation and R&D that makes larger firms outperform their smaller counter-
parts (i.e., the Schumpeter Mark II regime). The opportunity-seeking entrepre-
neur was emphasized by Kirzner, who defined as the main feature of
entrepreneurial behavior the “alertness to possibly newly worthwhile goals and to
possibly newly available resources” (Kirzner, 1973, p. 35). Finally, the risk-taking
entrepreneur is associated with Knight, for whom apart from workers on routine
and mental operations and managers, the organization of economic activity
depends upon those who have “. . . confidence in their judgment and powers and
in disposition to act on their opinions, to ‘venture’. This fact is responsible for the
most fundamental change of all in the form of organization, the system under
which the confident and venturesome ‘assume the risk’ or ‘insure’ the doubtful
and timid by guaranteeing to the latter a specified income in return for an
assignment of the actual results” (Knight, 1921, III.IX.10).
Combining these three approaches, the OECD defines entrepreneurs as
“agents of change and growth in a market economy and they can act to accelerate
the generation, dissemination, and application of innovative ideas. . . Entrepre-
neurs not only seek out and identify potentially profitable economic opportunities
but are also willing to take risks to see if their hunches are right” (OECD, 1998, p.
11).
Feldman (2001) is credited to place entrepreneurship activity – what Shapero
(1984) termed the “entrepreneurship event,” namely the decision to engage in the
formation of a company (Feldman, 2001, p. 862) – within a regional context (see
also Feldman, Francis, & Bercovitz, 2005). Audretsch and Keilbach (2004)
looked on the importance of entrepreneurship to explain output across 327
regions in Germany and found a positive and statistically significant relation.
Furthermore, Van Stel et al. (2005) studied whether total entrepreneurial activity
influenced GDP growth between 1999 and 2003 in a sample of 36 countries and
found that the relationship is not linear: it is negative for poorer countries and
positive for relatively rich ones. These findings support the view that larger firms
dominate R&D and innovative activities (Mark II regime) and that, therefore,
regions or countries with a dearth of large companies fail to exploit economies of
scale and scope even in the presence of relative high levels of entrepreneurial
activity. A burgeoning literature has focused on the notion of regional
“entrepreneurial ecosystems” and their moderating role in regional productivity
and performance (Cohen, 2006; Stam & van de Ven, 2021; Szerb, Lafuente,
Horváth, & Páger, 2019), which has been defined as “a network of interconnected
organizations that are likely to operate around a focal firm or platform” (Cavallo,
Ghezzi, & Balocco, 2019, p. 1295).
A novel line of research has developed the concept of “smart specialization” –
“a place-based approach to regional innovation policy where priorities for public
investment are ‘discovered’ through analysis and dialogue with the innovation
and entrepreneurial communities” (Marques Santos, Edwards, & Neto, 2021, p.
5) – and is focusing on regional strategies to increase productivity growth through
R&D subsidiarization and competitiveness (Marques Santos, Edwards, & Neto,
2022). Consequently, the more entrepreneurial a region, the more likely it will
contain people willing to take risks in uncertain economic ventures and ready to
grab commercial opportunities – and who therefore will introduce new products
and processes in the market.1 Entrepreneurial activities would result in higher
productivity and growth.
Competition
Scarpetta and Tressel (2002) explain that competition forces prices to converge to
marginal costs and thus raises static efficiency and that it makes firms continually
improve their performance bringing about, thus, dynamic efficiency as well. More
competitive markets encourage cost-reducing improvements because their higher
price elasticity of demand means that there is more room for firms to increase
profit than in less competitive markets. Furthermore, the higher is the competitive
environment of a market, the less likely is that inefficient firms may operate in it.
However, from other theoretical stances, competition may also have adverse
consequences for productivity. The Schumpeterian approach contends that
innovation and creative destruction thrive in highly concentrated markets because
monopoly rents are quickly eroded in competitive ones. Aghion and Howitt
(1998) attempted to reconcile both views on the relationship between product
market competition and productivity growth. They argued that the relationship
should be positive in industries: (1) characterized by weak control of managers by
shareholders, (2) where tacit knowledge is the main limiting barrier to imitation
relative to patent protection, and (3) with low density of technology-specific fixed
investments.
A number of empirical studies have confirmed this conjecture – see, for
example, Griffith (2001), Köke and Renneboog (2005), Aghion, Blundell, Grif-
fith, Howitt, and Prantl (2004, 2009), Nicoletti and Scarpetta (2005).
1
For a recent survey, see Sternberg (2021).
Furthermore, firm-level studies in the United Kingdom have reported positive

effects of competition on productivity – Nickell (1996), Blanchflower and Machin
(1996), Nickell, Nicolitsas, and Dryden (1997), Disney, Haskel, and Heden
(2003), Fritsch and Changoluisa (2017).
Industrial Clusters and Productivity

The process of industrial concentration in clusters evolves as a result of indus-
trialization (Fujita, Krugman, & Venables, 2001).2 Agglomeration externalities
obtained due to the availability of more productive workers or knowledge spill-
overs in certain cities or regions have been consistently identified as a positive
influence on productivity (Beeson, 1992). The literature distinguishes between
intra-industry agglomeration externalities related to geographical concentration
of firms belonging to one sector or industry and cross-sectoral agglomeration
externalities related to the diversification caused by a relatively high density of
firms from different sectors or industries in one area.
Geographical concentration would contribute to productivity growth by the
production of positive economic effects external to the firms but internal to the
sector or industry in the shape of knowledge spillovers and of the transmission of
tacit information. Diversification externalities would also contribute to produc-
tivity growth by the generation of positive economic effects in the shape of
exchange of ideas across vertically integrated, complementary firms (Cainelli,
Ganau, & Iacobucci, 2016). The first type of agglomeration externalities is
associated with Marshall (1890), Arrow (1962), and Romer (1986),3 whereas the
second type is associated with Chinitz (1961) and Jacobs (1969).
Approaches based on agglomeration externalities tend to focus on positive
externalities derived from the sharing of knowledge and information within sec-
tors and industries whose would firms benefit from. These would include a higher
availability of skilled labor and other specialized inputs with the consequent
reduction in mobility costs. The reduction of transaction costs is also a feature of
this approach (Iammarino & McCann, 2006). These authors identified three ideal
types of transaction cost effects of industrial clustering on interfirm relations: the
pure agglomeration, the industrial complex, and the social network effects. The
pure agglomeration is based on urban spaces that witness strong competition
among atomistic productive units. The sole presence of the local firms would
generate external effects for all the units within the urban space. The industrial
complex type of transaction cost effect operates at a subnational level, where
some large firms have come geographically closer to one another to reduce
interfirm transportation costs. Finally, social network effects also take place at a
regional level but operate among both small and large firms. The positive
2
Industrial agglomeration, industrial concentration, industrial clustering, industrial
districts, and industrial proximity are used almost indistinctly in the literature along with
“industrial clusters.” We have followed this custom.
3
See Glaeser, Kallal, Scheinkman, and Shleifer (1992) and Glaeser (2011).
transaction cost effects in this case stem from increased trust and loyalty between
units and the possibility that these social networks create of mutually profitable
joint lobbying and joint venture opportunities.
Regarding the vertical integration of knowledge within sectors, this would be
the result from technologically-specific drivers operating in some industrial sectors
and not in others in a region, which include spin-offs and knowledge accumula-
tion not easily transferrable across sectors. Moreover, vertical integration could
foster the birth of new firms within the sector, as accumulated knowledge in a
region and sector would give impetus for greater entrepreneurship and start-up
rates within that particular region and sector (Presutti, Boari, & Majocchi, 2013).
Another aspect of knowledge integration is to do with informal and interpersonal
relationships between managers (Capaldo & Petruzzelli, 2014; Huggins &
Thompson, 2015; Rank, 2014) – a type of social capital whose returns could also
partially explain the relatively higher levels of concentration of industries in one
region.
Bottazzi, Dosi, and Fagiolo (2005, 2007, 2008) opine that differences in sec-
toral concentration across regions result from localized forms of knowledge
accumulation that turn a particular region more attractive for firms operating in
one sector and less attractive for firms in other industries. This type of effect from
vertical integration may lead to merges between firms in order to internalize
nondecreasing returns and thus to lower industrial clustering levels in the region if
measured by the number of firms operating in the sector in the region, but not if
measured by number of firms or by employment units. This highlights the
importance of how industrial agglomeration is operationalized, to which we
return later. The empirical evidence, though mixed (see Beaudry & Schiffauerova,
2009; Caragliu, de Dominicis, & de Groot, 2016), tends to favor the hypothesis of
geographical concentration over firm diversification as the main of the two forces
(Cainelli et al., 2016; Capello, 2002; Henderson, Kuncoro, & Turner, 1995).
According to the literature that uses industrial clusters as indicators of regional
concentration, economic growth takes place at a subnational, rather than
national, level: the economic activity in regions would be the key dimension at
which to design policies to foster growth (Cheshire & Malecki, 2004; Farole,
Rodriguez-Pose, & Storper, 2011), especially if accompanied by low long-term
unemployment rates, low levels of hidden, informal economic activities, and low
levels of corporate tax rates (Barca, McCann, & Rodrı́guez-Pose, 2012) – to
which we would add high female labor market participation, which is particularly
relevant to Egypt. In comparative studies, either across countries or within
countries with a high degree of decentralization, it is common to add another
macro determinant of productivity generally referred to as “institutions” – which
is proxied by indicators of the regulatory, policy, political, and judicial systems.
Given that Egypt exhibits a highly centralized local government system
(El-Gamal, Ismail, & El Bagoury, 2022; Tobbala, 2019), we do not include in our
models any institutional features as explanatory variables of disparities in regional
productivity performance. In addition, there is some evidence that the effects of
the regional institutional milieu on productivity and economic performance is
mediated by entrepreneurship (Urbano, Aparicio, & Audretsch, 2019) – one of
the variables included in our models. Having said this, we acknowledge that more
disaggregated studies could identify microinstitutional factors operating differ-
ently across governorates, such as the strength and role of tribal connections
(Zoogah, 2016) as well as bureaucratic constraints and inertia effects, which could
help further explain disparities in regional productivity across the country (for a
recent survey, see Sternberg, 2021). Here, we can only suggest it as a promising
line of future research.
Reviews of the literature on industrial clustering and agglomeration effects on
productivity point out that the choice of indicator to operationalize the notion of
a cluster is of paramount importance – for example, de Groot et al. (op. cit.)
(McCann & Van Oort, 2019). Badr, Rizk, and Zaki (2018) analyzed the linkages
between firm productivity and economies of agglomeration in Egypt across the 27
governorates. These authors looked into three definitions of agglomeration: the
number of firms operating in a governorate, the average productivity in a
governorate and sector, and the number of firms operating in the same gover-
norate and sector. Once firm age, location, economic activity, and legal status
were controlled for, the study reported net positive clustering effects across the
board, with greater benefits among medium and large firms (micro and small
firms would benefit relatively more from industrial diversification) and among
manufacturing firms compared to service firms (the latter would benefit from
higher levels of diversification).
Williamson (1965) introduced the hypothesis that there is a nonlinear relationship
between regional agglomeration of economic activity and national economic
growth, according to which at earlier stages of development, regional concentration
leads to higher economic growth, but advanced industrialized economies would face
net agglomeration diseconomies that would reduce economic growth. Since this
seminal work, theoretical models of what is known as new economic geography and
regional studies point to a positive relationship between regional concentration of
economic activity and national economic prosperity.
Cross-sectional studies suggest the existence of this nonlinearity in the rela-
tionship between concentration and growth, although it varies depending on how
regional concentration is measured. Studies that focus on, for instance, the share
of the population living in urban areas tend to confirm Williamson’s hypothesis,
while studies that define concentration in terms of industrial clustering fail to find
a negative association at higher levels of development. In addition, recent studies
suggest an N-shaped curve depicting the relationship between productivity growth
and regional development, with widening gaps increasing the disparity between
well-performing and lagging regions (Ganong & Shoag, 2017; Iammarino,
Rodrı́guez-Pose, & Storper, 2019). These findings indicate that not only labor
productivity is the main driver of regional economic growth but also disparities in
productivity performance are the main culprits behind regional inequalities
(Gómez-Tello et al., 2020) – see also Esteban (2000).
One main distinction in the academic literature on industrial clusters is that
between intra-industry and cross-sectoral agglomeration externalities. However,
most operational definitions of clusters based on secondary data adopt the former
approach and so do we, even though we are aware that this methodological choice
precludes the consideration of cross-sectoral externalities as well as of subnational

and international cross-border externalities (van Stel & Nieuwenhuijsen, 2004). In
this regard, a theoretical definition that informs our work is as follows: “clusters
are defined as a geographical concentration of closely interconnected horizontal,
vertical and lateral actors, such as universities, from the same industry that are
related to each other in terms of a common research and knowledge base, tech-
nologies and/or product market” (Grashof & Fornahl, 2021, p. 546). Therefore,
the technical linkages may be horizontal or vertical, but are confined within an
industry or sector and, pertaining to the objective of this study, within a region
(governorate).
How clusters are measured, as we mentioned above, may influence the results
of empirical analyses depending on the underlying economic process driving the
industrial concentration in a region. However, before considering the indicators
used to compute industrial agglomeration in a region, we have to deal with the
definitions of agglomeration in empirical studies – that is, with how clustering is
defined, rather than measured. In this regard, four main strategies can be
distinguished4: the use of (1) concentration indices (the Gini coefficient, the
Ellison–Glaeser index, the Duranton–Overman index, the Hirschman–Herfindahl
index, etc.), (2) location or specialization quotients, (3) the Moran’s I and Getis-
Ord’s G statistic derived from spatial regressions, and (4) input–output rela-
tionships estimated from input–output tables (Brenner, 2017).
Each option has its virtues and drawbacks, depends on the type of data the
research is based on, and is relatively more appropriate for different geographical
disaggregation levels. Concentration indices fail to distinguish between the
combination of region and sector dominated by a small number of large firms and
sectors within regions that present a large number of small firms (Long & Zhang,
2012). As the chapter studies microdata at regional level, input–output tables were
not an option, but the relative merits of location quotients and the spatial
econometrics statistics could be explored. However, given that our data are dis-
aggregated only for the 27 governorates, we concluded that it does not contain
enough geographical granularity to proceed with a spatial econometric analysis.
As a result, this chapter uses location quotients to identify industrial clusters
within the governorates of Egypt. Besides these methodological considerations,
location quotients are the measure of choice for the studies of industrial clusters at
regional and country level and are at the heart of the policy-oriented work by the
European Cluster Observatory (Sölvell, Ketels, & Lindqvist, 2009) and the US
Cluster Mapping initiatives (Delgado, Porter, & Stern, 2014).
Two key aspects of the use of location quotients are the choice of a threshold of
concentration above which a cluster is defined, as well as the dimension along
which concentration is measured. Regarding the concentration threshold, we
followed the methodology introduced by Long and Zhang (2012), which is based
on the Hausmann–Klinger (Hausmann & Klinger, 2007) proximity matrix (see
Section XXX). Concerning the measuring variables, location quotients can be
4
For a recent survey, see Chain, Santos, Castro, and Prado (2019).
measured in terms of sectoral concentration of workers, establishments, invest-

ment, or output within a given region. In this chapter, we use these four
dimensions separately in order to capture the various economic processes that
might have undergirded industrial agglomeration across Egyptian governorates
during the period under study.
The geographic concentration of sectoral economic activity responds to
numerous factors, among which economies of scale and scope, network exter-
nalities and technological spillovers, transaction costs, industrial policies, and
social capital and social trust play an important role. The inclusion of industrial
agglomeration captures the first two of these: economies of scale and scope and
network externalities and technological spillovers. We contend that differences in
transaction costs are, in part, detected by our indicator of competition – the extent
to which informal firms constitute the competitors that most affect this estab-
lishment’s daily operations, in terms of pressures to compete on prices, products,
or services – which unfortunately could only be used in an exploratory fashion
due to data limitations (see Section XXX). Industrial policies do not vary across
the country, given the centralization of policy decision-making already
mentioned. This would leave social capital and trust out of the study, and we
acknowledge it to be one limitation of the work we present. In particular, the
positive relationship between economic informality and social trust (e.g., Williams
& Kosta, 2019) promises illuminating findings between the effects on the pro-
ductivity performance of formal enterprises of measures of social trust at regional
and local levels in Egypt, which are beyond the scope of this study.
Data and Statistical Methods

Data
de Groot, Marlet, Teulings, and Vermeulen (2015) point out that promising lines
of academic inquiry into the importance of industrial clusters and productivity
growth include the use of microdata on firms and workers, as well as dynamic
general equilibrium models, the modeling of spatial and temporal variation in the
impacts of agglomeration, and the geographical scope of the cluster effects. This
chapter contributes to the first avenue of research as it uses microdata from the
Economic Census 2017/2018 administered by the Central Agency for Public
Mobilization and Statistics (CAPMAS), an agency of the Egyptian government
(CAPMAS, 2018a). This dataset contains the records of the latest in a series of
comprehensive surveys of establishments across the country, which started in
1991/1992 and were carried out in 1996/1997, 2000/2001, and 2012/2013.5
The 2017/2018 census surveyed 3.743 million establishments, of which 3.741
million are private sector businesses (including 10% of closed establishments).
5
We are grateful to Ms. Ghada Mostafa Abd Allah and Professor Zakaria Othman, and
counselors to the head of the Central Agency for Public Mobilization and Statistics
(CAPMAS) in Cairo, Egypt, for their help to access the datasets and their technical
support.
Sampling selection was stratified based of three criteria: the economic activity, the
number of workers of the establishment, and the governorate. The sample
includes 100% of the establishments in Egypt with 10 workers or more; 50% of the
establishments with between 5 and 9 workers; and 5% of the establishments with
fewer than 5 workers. Field work took place throughout 2017. The overall
response rate was 96.68%.
In total, there were 13.645 million workers within the surveyed establishments
(around 53% of total employment for 2017, which stood at 26 million), with a
significant gender inequality: 84% of workers were male, which reflects the gender
imbalance in labor market participation in Egypt (Hendy, 2015; Krafft, As‘ad, &
Keo, 2019; Krafft, As‘ad, & Rahman, 2019). Total GDP at factor cost for 2017/
2018 amounted to LE 4.333 trillion in current prices (CAPMAS, 2018b). The
2017/2018 census records a total gross value added amounting to LE 2.158 tril-
lion, which means that it was equivalent to about 50% of GDP.
The industries and sectors were classified according to the International
Standard Industrial Classification of All Economic Activities (ISIC). The census
defined the observational units, that is, the “establishments,” as “a fixed location
where an economic activity is being carried out and is held by natural or legal
person.” As already indicated, we used four alternative measures of concentration
to obtain the clusters: employment, establishments, output, and capital. Table 6.1
presents the counts for each variable by governorate and Table 6.2 by industrial
sector.
The variables we used in the empirical analysis are as follows:
• For employees, the variable “Total number of workers” (“‫”ﺝﻡﻝﺓ_ﻉﺩﺩ_ﺍﻝﻉﺍﻡﻝﻱﻥ‬

in the dataset).
• For establishments, the “Establishment identification number” (“‫”ﺭﻕﻡ_ﺍﻝﻡﻥﺵﺃﺓ‬
in the dataset).
• For capital, the variable “Value of capital invested”
(“‫ ”ﻕﻱﻡﺓ_ﺭﺍﺱ_ﺍﻝﻡﺍﻝ_ﺍﻝﻡﺱﺕﺙﻡﺭ‬in the dataset)
• For output, the variable “Net value added” (“1_‫ ”ﺍﻝﻕﻱﻡﺓ_ﺍﻝﻡﺽﺍﻑﺓ_ﺍﻝﺹﺍﻑﻱﺓ‬in
the dataset).
• The variable “Skills” was measured as the percentage of the sum of female and
male workers with education above average (variables
“‫ ”ﺍﻝﻡﺵﺕﻍﻝﻱﻥ_ﻑﻭﻕ_ﻡﺕﻭﺱﻁ_ﺫﻙﻭﺭ‬and “‫ )”ﺍﻝﻡﺵﺕﻍﻝﻱﻥ_ﻑﻭﻕ_ﻡﺕﻭﺱﻁ_ﺍﻥﺍﺙ‬and of
college education or higher (variables “‫ ”ﺍﻝﻡﺵﺕﻍﻝﻱﻥ_ﺝﺍﻡﻉﻱ_ﺍﻭ_ﺍﻉﻝﻱ_ﺫﻙﻭﺭ‬and
“‫ )”ﺍﻝﻡﺵﺕﻍﻝﻱﻥ_ﺝﺍﻡﻉﻱ_ﺍﻭ_ﺍﻉﻝﻱ_ﺍﻥﺍﺙ‬over all workers.
• For start-ups, we used the variable “Start date of activity”
(“‫ ”ﺕﺍﺭﻱﺥ_ﺏﺩﺀ_ﻡﺯﺍﻭﻝﺓ_ﺍﻝﻥﺵﺍﻁ‬in the dataset) and constructed a binary variable
with values equal to 1 if the establishment started in 2017 and equal to
0 otherwise.
• For innovations, as mentioned above, we used the number of patents appli-
cations per establishment, using data from the Egyptian Patent Office – see Ali
(2021) for a description of the variable we used.
Table 6.1. Main Indicators by Governorate.
172
Governorate Gross Fixed Capital Gross Value Production Employees Establishments Arabic Official
Enas Moustafa Mohamed Abousafi et al.

Formation Added Name
Cairo 86,213,278 512,542,782 885,036,308 2,630,183 483,610 ‫ﺍﻝﻕﺍﮪﺭﺓ‬
Alexandria 21,135,003 226,766,697 419,540,199 1,214,437 287,480 ‫ﺍﻝﺇﺱﻙﻥﺩﺭﯼﺓ‬
Port Said 158,622,069 103,931,699 154,060,151 175,143 34,172 ‫ﺏﻭﺭﺱﻉﯼﺩ‬
Suez 17,021,772 56,538,181 139,395,246 180,571 32,037 ‫ﺍﻝﺱﻭﯼﺱ‬
Damietta 12,274,909 37,399,940 60,766,048 332,882 130,744 ‫ﺩﻡﯼﺍﻁ‬
Dakahlia 14,986,874 97,420,306 151,232,407 889,177 320,197 ‫ﺍﻝﺩﻕﮪﻝﯼﺓ‬
Al Sharqiya 17,269,295 103,366,705 238,508,656 867,030 284,664 ‫ﺍﻝﺵﺭﻕﯼﺓ‬
Qalyubia 17,890,720 137,831,566 277,040,578 868,485 237,566 ‫ﺍﻝﻕﻝﯼﻭﺏﯼﺓ‬
Kafr El 2,195,963 21,977,918 37,644,996 302,709 117,373 ‫ﺍﻝ ﺵ ﯼ ﺥ‬ ‫ﻙﻑﺭ‬
Sheikh
Al Gharbia 4,996,169 43,080,136 86,615,175 632,705 215,371 ‫ﺍﻝﻍﺭﺏﯼﺓ‬
Monufia 13,324,166 43,644,129 110,032,882 475,852 152,005 ‫ﺍﻝﻡﻥﻭﻑﯼﺓ‬
El Beheira 5,515,113 62,365,321 109,536,114 587,474 214,412 ‫ﺍﻝﺏﺡﯼﺭﺓ‬
Ismailia 4,006,647 31,246,862 57,718,735 208,623 55,754 ‫ﺍﻝﺇﺱﻡﺍﻉﯼﻝﯼﺓ‬
Giza 37,593,404 251,652,875 505,951,286 1,620,907 347,984 ‫ﺍﻝﺝﯼﺯﺓ‬
Beni Suef 3,436,890 17,928,945 39,296,617 267,727 88,829 ‫ﺱﻭﯼﻑ‬ ‫ﺏﻥﻱ‬
Faiyum 1,174,644 48,431,123 71,973,250 395,437 156,192 ‫ﺍﻝﻑﯼﻭﻡ‬
Menia 3,813,107 22,351,179 35,898,785 398,380 146,714 ‫ﺍﻝﻡﻥﯼﺍ‬
Assiut 15,420,225 26,955,338 58,419,209 268,982 95,837 ‫ﺍﺱﯼﻭﻁ‬
Sohag 1,083,139 19,186,719 26,670,650 310,899 115,958 ‫ﺱﻭﮪﺍﺝ‬
Qena 3,311,966 19,317,353 39,170,746 222,814 81,295 ‫ﻕ ﻥﺍ‬
Aswan 2,799,019 18,594,424 30,138,700 149,556 44,035 ‫ﺃﺱﻭﺍﻥ‬
Luxor 968,205 9,299,595 12,657,209 136,808 41,282 ‫ﺍﻝﺃﻕﺹﺭ‬
The Red Sea 10,823,760 60,200,001 94,208,992 140,526 18,058 ‫ﺍﻝﺇﺡﻡﺭ‬ ‫ﺍﻝﺏﺡﺭ‬
New Valley 245,306 2,397,513 4,263,066 27,632 8,945 ‫ﺍﻝﺝﺩﯼﺩ‬ ‫ﺍﻝﻭﺍﺩﻱ‬
Matrouh 6,760,959 102,349,651 127,433,136 75,016 18,876 ‫ﻡﻁﺭﻭﺡ‬
North Sinai 2,805,833 29,761,925 37,863,506 23,365 6,627 ‫ﺱﯼﻥﺍﺀ‬ ‫ﺵﻡﺍﻝ‬
South Sinai 6,534,774 51,781,546 66,239,612 62,047 6,545 ‫ﺱﯼﻥﺍﺀ‬ ‫ﺝ‬
Total 472,223,209 2,158,320,429 3,877,312,259 13,465,367 3,742,562
Source: CAPMAS (2018a).
Drivers of Regional Productivity

173
Table 6.2. Main Indicators by Industrial Sector.
Industry Employees Establishments Gross Value Gross Fixed

Added Capital
Formation
Agriculture, forestry, 458,749 134,335 50,646,974 3,531,172
and fishing
Mining and 54,963 1,003 330,295,123 169,133,501
quarrying
Manufacturing 3,257,771 523,058 674,829,642 95,206,901
Electricity, gas, 170,294 241 67,634,080 72,673,923
steam, and air
conditioning supply
Water supply; 176,825 7,613 16,721,853 8,267,237
sewage, waste
management, and
remediation
activities
Construction 457,458 11,348 90,059,887 13,114,728
Wholesale and retail 5,039,899 2,178,316 450,746,921 54,595,717
trade; repair of
motor vehicles and
motorcycles
Transportation and 214,128 24,661 58,191,993 3,541,698
storage
Accommodation 830,613 182,455 78,858,338 3,199,422
and food service
activities
Information and 176,669 4,813 50,262,062 24,892,473
communication
Financial and 161,683 2,549 81,162,480 9,801,236
insurance activities
Real estate activities 90,787 18,316 18,623,944 6,004,862
Professional, 289,996 80,829 52,976,638 1,133,150
scientific, and
technical activities
Administrative and 253,700 44,049 28,400,486 563,659
support service
activities
Education 277,096 20,706 28,211,783 2,454,287
Table 6.2. (Continued)

Industry Employees Establishments Gross Value Gross Fixed
Added Capital
Formation
Human health and 839,816 156,158 44,646,101 2,687,080
social work activities
Arts, entertainment, 115,084 32,789 7,016,092 1,054,672
and recreation
Other service 599,834 319,324 29,036,031 367,490
activities
Total 13,465,365 3,742,563 2,158,320,428 472,223,208
Source: CAPMAS (2018a).
We estimated two indicators of labor productivity – output per worker and

output per hour worked. Output per worker was constructed using the micro
dataset and resulted from the division between the net value added and the total
number of workers, as defined above. To obtain the indicator of hourly labor
productivity, we used the average number of hours worked for 2017 by gover-
norate (CAPMAS, 2017), which corresponds to the first week of June 2017 and
we multiplied by 52 to annualize the figures. However, we only report the results
for output per worker, as using the alternative definition of productivity, we failed
to find any significant results and we ran into convergence problems in some
models.6 The census dataset breaks down the industrial sectors into 84 industries
(see Annex A for the full list). The location matrix and quotients were calculated
using this level of disaggregation. Annex B presents maps that show the distri-
bution of each of the five drivers and the two measures of labor productivity by
governorate.
Regarding competition, we had to resort to data from the World Bank’s 2016
Enterprise Survey (World Bank, 2016). This survey covered 1,827 establishments
and was collected between October 2016 and April 2017 using stratified sampling
based on the size of the establishment, the industry, and the region. Regrettably,
the regional stratification in this survey does not contain data by governorate.
Instead, the lowest geographical units are seven regions, namely Greater Cairo,
West Delta, Suez Region, Middle and East Delta, Northern Upper Egypt,
Southern Upper Egypt, and Frontier. Table 6.3 presents the number of estab-
lishments covered by region.
Informal economic units are not only less productive, on average, than formal
establishments, but their presence tends to deter private investment and reduce
productivity from formal firms (Amin, Ohnsorge, & Okou, 2020). The variable we
6
Results available from the corresponding author.
Table 6.3. Surveyed Establishments in the Egypt Enterprise Survey 2016.
Region Surveyed Establishments

Greater Cairo 699
West Delta 290
Suez Region 121
Middle and East Delta 338
Northern Upper Egypt 170
Southern Upper Egypt 126
Frontier 83
Total 1827
Source: World Bank (2016).
chose to measure the degree of competition within a region is to do with

competition from informal firms. Two questions were posed in the survey in this
regard.
The first one asks about the competitor(s) that most affect the establishment’s
daily operations, in terms of pressures to compete on prices, products, or services.
The options include foreign firms operating in Egypt, private firms at national
level or operating from other governorate, local private firms operating in the
same governorate, imports, state-owned enterprises, and informal sector firms. As
it can be gathered, some of the options refer to “sound” sources of competition:
foreign firms, private firms at national level, and local private firms. Competition
from state-owned firms point to uneven and unfair pressures faced by privately
owned firms. However, merely 0.48% of surveyed firms responded that
state-owned firms are the competitors that most affect their daily operations,
against almost 3% of respondents stating that informal firms are their main
competitors (rising to more than 8% of firms in the Middle and East Delta and the
southern Upper Egypt regions).
The second question enquiries about to what degree the practices of compet-
itors in the informal sector constitute an obstacle to the current operations of the
establishment. We found a mild correlation (R2 5 20.54) across regions
regarding the presence of informal competition and the extent to which they are
not deemed to be a hindrance to daily operations by formal firms. We constructed
an indicator of informal competition for each region using the average responses
to the first question weighted by the degree to which informality is not considered
an obstacle.
The Hausmann–Klinger Proximity Matrix

As mentioned in the previous section, Long and Zhang (2012) introduced the use
of the Hausmann–Klinger proximity matrix to measure industrial clustering.
Abdelaziz, El-Enbaby, Zhang, and Breisinger (2018) applied this technique to

microdata from Egypt to identify promising sectors and locations in terms of
future industrial development.
In this subsection, we use data for the number of employees by firm and
industrial sector in each region to illustrate the technique (the similar approach
follows for other definitions of clusters, such as number of establishments, the
volume of production, and the volume of investment by firms, industrial sector,
and region).
First, industrial local quotients for each sector and region are computed
according to the following formula (local quotients measure the comparative
advantage of an industrial sector within a region):

Er;j Er
LQr;j ¼
Ec;j Ec
where
E 5 employment
r 5 region
j 5 industrial sector
c 5 country
Therefore, Er;j measures the total number of workers of a firm in region r and
industrial sector j; Er stands for the total number of workers in region r; Ec;j
corresponds to the total number of workers in industrial sector j in the country;
and Ec , total employment in Egypt.
If LQr;j . 1, then industry j in region r has a comparative advantage relative to
the national average of the same industry. With these location quotients, a matrix
of conditional probabilities is estimated, whose elements are the smaller between
two values: the conditional probability that industry i in region r also presents a
comparative advantage relative to the national average of industry i given that
industry j has a comparative advantage in that region, and the conditional
probability that industry j in region r also presents a comparative advantage
relative to the national average of industry j given that industry i has a
comparative advantage in that region. These minimum values are known as
industry proximity measures (Hidalgo, Klinger, Barabási, & Hausmann, 2007).7
Let us denote the proximity measure of industry j in region r as ∅r;j . Then, we
can use the weighted proximity coefficients for each other industry than j to
obtain a measure of proximity for each industry in each region. As in our
example, using the total number of workers as the basis for our clustering exer-
cise, we would estimate
7
This same approach has been used, among others, by Minondo (2011); Boschma,
Minondo, and Navarro (2013); Kali, Reyes, McGee, and Shirrell (2013); He, Zhu, Hu,
and Li (2019); and Lo Turco and Maggioni (2019).
0 1
j5nB
B Er;j C C
∅r;i ¼ + B∅i;j j5n :C
ji @ A
+ Er;j
ji
With these proximity measures, we obtain an industrial proximity matrix, from

which we estimate our regional clustering indicator:
i5n

Er;i
Cr ¼ + ∅r;i :
i¼1 Ec;i
The clustering indicator captures the relative size of the industrial sectors
within a region and the degree of interlinkages within sectors in a region.
After obtaining the matrices of location quotients using different measures of
industrial clustering (in our case, employment, establishments, capital, and
output), a composite indicator of industrial clustering can be estimated by means
of the unweighted average of each location quotient indicator.
Method
We explore our research question using SEM. SEM is “a statistical method of
defining, identifying, and estimating total, direct and indirect causal influences
and effects among variables” (Kumar, Singh, & Singh, 2016, p. 236).8 When
designing SEM models, it is crucial to let theory and previous empirical findings
inform which interrelationships to include, either as direct paths or as covariances
between variables, rather than to rely on modification indices such as Lagrange
multipliers that estimate the amount by which the chi-square of the model would
be reduced if a parameter restriction is removed, that is, the improvement in the
overall fit that is achieved if a particular path or covariance is added to the
original model. We concur with the misgivings about modification indices pro-
nounced by MacCallum, Roznowski, and Necowitz (1992, p. 502): “. . . our
results bring us to a position of considerable skepticism with regard to the validity
of the model modification process as it is often used in practice.”
Therefore, we added the following paths between the explanatory variables:
• The level of capital formation in a region is influenced by the skills level of the
workforce in the region.
• The proportion of highly skilled people in the workforce influences the
expenditure on R&D and of entrepreneurial activity and start-ups.
• The degree of industrial clustering based on the number of workers influences
the concentration of relatively highly skilled workers in a region.
• The level of capital formation in a region influences the degree of establishment
clustering and of capital-based and of output-based clusters in the region.
8
For an introduction to structural equation modeling, see Kline (2005).
Concerning competition as an explanatory variable, we can only provide

preliminary correlation coefficients, given that the available data are based on
only seven regions.9
Results
Table 6.4 presents the four indicators of industrial clusters by governorate.
Regardless of the indicator on which the clusters are based, Cairo is the
governorate with the largest industrial agglomeration, and the New Valley is the
governorate with the lowest concentration, except that in terms of number of
establishments, northern Sinai comes up at the bottom. The largest clustering
indices are found for the capital-based definition followed by the output-based,
the employment-based, and the establishment-based definitions. This means that
there is a higher concentration of industries in the Cairo governorate if agglom-
eration is measured by investment than by any other indicator.
Furthermore, the ratio between Cairo and the least clustered governorate (the
New Valley or northern Sinai, depending on the definition) is over 197 times
higher for the capital-based definition and goes down to 110 times higher for the
definition of clusters based on the number of establishments per industrial sector.
Annex E presents the Pearson and Spearman rank correlation coefficients
between the four indicators of regional industrial agglomeration. The table shows
that once sorted by rank, the strength of the association lessens, especially
between the establishment-based and capital-based indicators and between the
establishment-based and output-based indicators.
The results from our SEM models for each measure of proximity are presented
in Table 6.5.10
Table 6.5 shows the standardized estimates of the loadings for the predicted
paths (i.e., direct and indirect effects) onto labor productivity. There is a prefer-
ence in SEM literature, mostly for theoretical reasons, to work with unstandar-
dized variables and therefore to present unstandardized results. However,
standardized estimates are easier to interpret, where the variables are transformed
9
The ES Survey includes three types of weighting factors: “strict,” “median,” and “weak.”
These factors reflect different eligibility procedures for the establishments included in the
survey. Strict weights define as eligible the establishments for which it was possible to
directly determine eligibility. Median weights include those covered by the strict weights
and add those establishments that rejected the screener questionnaire, or an answering
machine or fax was the only response. Finally, weak weights include the establishments
included in the previous two criteria plus those establishments for which it was not possible
to contact or that refused the screening questionnaire. Given that a comparison of the
weighted percentages of respondents for the different categories in the question about the
degree that practices of informal competitors constitute an obstacle to the daily
applications is marginally and not statistically significantly different using each eligibility
criteria, we applied the strict weighting factors to construct our indicator.
10
We used the lavaan library (Rosseel, 2012) of R (R Core Team, 2020) for running all the
SEM models.
Table 6.4. Industrial Clusters by Governorate.
Governorate Employment Establishments Capital Output

Based Based Based Based
Alexandria 0.108222 0.106524 0.096632 0.093377
Assiut 0.021315 0.022816 0.020137 0.014699
Aswan 0.015705 0.017694 0.016574 0.011623
Beni Suef 0.023832 0.021431 0.017443 0.019688
El Beheira 0.033210 0.044462 0.035181 0.031423
Cairo 0.342292 0.283532 0.416580 0.415583
Dakahlia 0.051568 0.088664 0.051034 0.034663
Damietta 0.020859 0.035665 0.025948 0.017771
Faiyum 0.020792 0.031142 0.009466 0.017410
Al Gharbia 0.037249 0.053325 0.016422 0.021070
Giza 0.231740 0.168762 0.224737 0.240991
Ismailia 0.018798 0.016717 0.030772 0.026700
Kafr El 0.014098 0.023815 0.006590 0.009606
Sheikh
Luxor 0.010874 0.013101 0.004316 0.006931
Matrouh 0.006674 0.007610 0.010177 0.007111
Monufia 0.032187 0.042388 0.030685 0.022422
Minya 0.019409 0.025624 0.010428 0.009866
Northern 0.002568 0.002570 0.003966 0.002977
Sinai
Port Said 0.019597 0.014778 0.018395 0.027596
Qalyubia 0.063994 0.070721 0.054372 0.070526
Qena 0.011518 0.012398 0.007895 0.008269
Al Sharqiya 0.065071 0.071051 0.062680 0.063658
Sohag 0.017464 0.025177 0.006879 0.008683
South Sinai 0.009591 0.006623 0.007368 0.010510
Suez 0.020950 0.010062 0.028758 0.021518
The New 0.002524 0.006323 0.002108 0.002190
valley
The Red Sea 0.027185 0.026311 0.033745 0.032424
Table 6.5. Structural Equation Model Results (Standardized Estimates) – Dependent Variable: Output per Worker.
Employment Establishments Gross Capital Formation Output

Est.std SE p Value Est.std SE p Value Est.std SE p Value Est.std SE p Value
Gross capital formation 0.440 0.152 0.004 0.449 0.152 0.003 0.429 0.152 0.005 0.428 0.153 0.005
Skills 20.096 0.175 0.583 20.101 0.171 0.556 20.104 0.167 0.533 20.101 0.168 0.549
Innovation 20.045 0.161 0.781 20.015 0.162 0.926 20.039 0.159 0.804 20.044 0.159 0.782
Entrepreneurship 20.140 0.166 0.398 20.115 0.167 0.488 20.143 0.163 0.382 20.140 0.163 0.390
Industrial clustering 0.287 0.162 0.076
Drivers of Regional Productivity

181
so that their mean is set to 0 and their standard deviation is set to 1. The coef-
ficients of regional clusters on labor productivity are all positive and statistically
significant at 10% of confidence level. The most significant effects of industrial
clustering are found for the cluster definitions using output and capital formation
(at 5% CI).
In all the models, the only additional explanatory variable with statistical
significance is gross capital formation, which exhibits the expected positive sign
and little variation across the models. We attribute this rather disappointing
finding regarding human capital, innovation, and entrepreneurship to the small
size of the number of observation units in comparison with the number of
parameters, which substantially limits the statistical power of the models as shown
in the fit measures presented in Annex C.
The root mean square error of approximation (RMSEA) for each model may
be seen as not acceptable. However, it is well-known that this measure is subject
to great sampling error in small samples (such as ours, with 27 observations),
which may render artificially high estimates (Kenny, Kaniskan, & McCoach,
2015; Rigdon, 1996). The same happens with the CFI and TLI indices. That is
why other indices are more appropriate to measure the goodness of fit of the SEM
models presented in this chapter. The standardized root mean square residual
(SRMR) – a fit indicator that is more robust to small sample size
(Maydeu-Olivares, Shi, & Rosseel, 2018; Taasoobshirazi & Wang, 2016) – indi-
cates good fit in all models (the largest value corresponds to the definition of
clusters based on capital formation, but at 0.06 is within an acceptable level – the
usual cutoff point is 8%). The Akaike and Bayesian indices are based on infor-
mation criteria and useful to compare between models. However, in our case, the
models are fit to different definitions of the dependent variable, so it is not
appropriate to compare between them.
Notwithstanding the lack of statistical significance in some of the intervening
variables, the statistically significant results for our four measures of clusters
suggest that the higher the degree of industrial agglomeration in a region, positive
spillovers are created, which local firms within the clusters tap into to improve
their productivity and thus contribute to regional economic prosperity. Table 6.6
shows the results of the standardized coefficients of SEM models with the com-
posite measure of industrial clustering described in the previous section – see also
Fig. 6.1 for a graphical representation of these results.
Table 6.6 shows that the composite index of industrial clustering is significantly
associated with regional productivity measured either as output per worker or per
hour worked. Moreover, the level of innovation tends to be positively associated
with labor productivity (though mildly). In contrast, these model specifications
would indicate a negative association between the concentration of skilled
workers in industrial sectors in a region and the level of labor productivity in that
region. This finding points to structural deficiencies in the regional labor markets,
particularly in the efficient allocation of highly skilled workers (apart from their
integration into the labor markets in the first place), and that is a promising strand
of future research.
Table 6.6. Results of Structural Equation Models With Composite Industrial

Clustering Index (Standardized Estimates).
Labor Productivity per Labor Productivity per

Worker hour
Est.std SE p Value Est.std SE p Value
Capital_formation 0.139 0.103 0.176 0.139 0.103 0.176
Skills 20.329 0.106 0.002 20.329 0.106 0.002
Innovation 0.155 0.090 0.086 0.155 0.090 0.086
Entrepreneurship 20.030 0.093 0.750 20.030 0.093 0.750
Average_cluster_index 0.803 0.087 0.000 0.803 0.087 0.000
Another way to assess the relative importance of agglomeration economies on

regional labor productivity in Egypt is presented in Table 6.7. This table shows
the regression results of univariate regressions of each driver on labor productivity
per hour and of bivariate regression models that include the average cluster index
as an additional covariate. We can note how dramatically the fit of each model
increases for the model specifications that include the average cluster index, which
in all cases is statistically significant.
With regard to the inclusion of our indicator for regional competition, as
mentioned in the previous section, with only seven regions we decided against
running linear regression models (as well as models with higher number of
parameters, such as structural equation models). Bivariate correlation coefficients
suggest a positive association between a lack of informal competition and labor
productivity in the region, particularly with regard to hourly productivity (see
Annex D). This is broadly in line with the results reported in Badr et al. (2018).
These authors constructed an indicator of competition defined as the number of
firms in the same cluster (or governorate) that operate in the same sector.
Competition is found to spur productivity, except in the presence of negative
externalities arising from poor infrastructure and congestion effects. However,
data limitations prevent us from exploring the mediating effects of this driver on
labor productivity when the effects of the other productivity drivers and of the
industrial clustering indicators are factored in.
Another limitation of the study presented in this chapter is that it is based on
only one wave of the Economic Census. Therefore, we could not explore dynamic
effects and lags between industrial clusters and labor productivity growth, as well
as the process of industrial clusters formation and evolution at a regional level.
We conclude that regional industrial agglomeration does contribute to regional
labor productivity in Egypt. Consequently, indicators of industrial clustering
should be added to empirical analysis of regional productivity – under the five
drivers or alternative frameworks. Second, in agreement with Badr et al. (2018)
that improved transportation and access to markets across governorates are
expected to boost labor productivity by facilitating factor mobility and thus
(a)
(b)
Fig. 6.1. Structural Equation Models With Composite Industrial

Clustering Index (Standardized Estimates). (a) Dependent Variable: Labor
Productivity per Worker. (b) Dependent Variable: Labor Productivity per
Hour.
Table 6.7. Regression Results.
Labor Productivity per hour

Estimate Cluster Index Intercept R2
Capital formation 0.403 0.841 0.161
2(0.184) 2(1.465)
0.058 1.509 1.921 0.674
2(0.130) 2(0.246) 2(0.948)
Skills 23.069 4.697 0.021
2(4.151) 2(0.919)
26.359 1.66 3.599 0.76
2(2.132) 2(0.193) 2(0.482)
Innovation 0.221 3.643 0.112
2(0.125) 2(0.274)
0.091 1.491 2.242 0.689
2(0.078) 2(0.224) 2(0.267)
Entrepreneurship 24.343 4.389 0.027
2(5.192) 2(0.462)
23.05 1.543 2.595 0.685
2(3.023) 2(0.218) 2(0.369)
Competition 3.243 3.349 0.318
2(0.950) 2(0.247)
0.662 1.426 2.333 0.68
2(0.829) 2(0.274) 2(0.260)
Note: Standard errors between parentheses.
fostering economies of agglomeration. Our limited size of observation units (27

governorates) is very possibly the reason as to why the coefficients for most of the
factors fail to exhibit statistical significance. Therefore, we could not draw any
policy conclusions in this regard from the study presented in this chapter. Except
for gross capital formation – the only driver with a significant coefficient – which
suggests that regional policy should focus on net investments in land improve-
ments; plant, machinery, and equipment purchases; and roads, railways, schools,
offices, hospitals, private residential dwellings, and commercial and industrial
buildings throughout the country. With investment rates in Egypt lagging behind
other Middle East and North Africa (MENA) countries, yielding lower returns
than expected, and dominated by public sector outlays (World Bank, 2021), it is
peremptory that the government improves how it manages public investments as
well as the institutional framework (including the rule of law, bureaucracy and red
tape, conflict of interest, transparency and governance, etc.) so that private
investment (both local and foreign) may substantially increase.
Final Comments
Labor productivity is at the heart of regional development, and national eco-
nomic prosperity depends on economically prosperous regions. This chapter
investigated the contribution of industrial clusters to regional labor productivity
across the 27 governorates of Egypt within the policy-orientated framework
known as the “five drivers of productivity.”
We found that higher regional industrial agglomeration is positively associated
with levels of regional labor productivity. Data restrictions prevented us from
exploring the role of regional market competition into any detail, as well as from
analyzing dynamic effects on regional productivity growth instead of static
relations on productivity levels. We trust that future datasets will allow us and
other scholars to deepen the understanding of this topic and therefore contribute
with better informed policy recommendations.
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Annex A – Full List of Industrial Sectors
(1) Crops and animal products, hunting, and related service activities,
(2) Forest exploitation and logging and related service activities,
(3) Fishing and aquaculture,
(4) Coal and lignite mining,
(5) Crude oil and natural gas extraction,
(6) Mining of ores of metals and minerals,
(7) Mining and other quarrying,
(8) Mining-related service activities,
(9) Food products industry,
(10) Beverage industry,
(11) Tobacco products industry,
(12) Textile industry,
(13) The readymade garments industry,
(14) Manufacture of leather and its products,
(15) Manufacture of wood and its products and cork, except for furniture, and
manufacture of items produced from straw and plaiting materials,
(16) Manufacture of paper and its products,
(17) Printing and reproduction of recorded media,
(18) Manufacture of coke and petroleum products,
(19) Manufacture of chemical materials and products,
(20) Manufacture of pharmaceutical, chemical, and pharmaceutical prepara-
tions and products of medicinal plants,
(21) Manufacture of rubber and plastic products,
(22) Manufacture of other nonmetallic mineral products,
(23) Manufacture of base metals,
(24) Manufacture of shaped metal products other than machinery and
equipment,
(25) Manufacture of computers, electronic and optical products, and their
components and the manufacture of medical devices,
(26) Industry of electrical appliances,
(27) Manufacture of machinery and equipment not classified elsewhere,
(28) Motor vehicles industry,
(29) Manufacture of other transport equipment,
(30) Manufacture of furniture and wood products not classified elsewhere,
(31) Other manufacturing industries,

(32) Repair of equipment and devices,
(33) Electricity, gas, steam, and air conditioning supplies,
(34) Water collection, purification, and distribution,
(35) Sewage networks,
(36) Collection, treatment, and recycling of waste,
(37) Treatment activities and other waste management services,
(38) Construction of buildings,
(39) Civil engineering,
(40) Specialized construction activities,
(41) Wholesale and retail trade and repair of motor vehicles and motorcycles,
(42) Wholesale trade, except for motor vehicles and motorcycles,
(43) Retail trade other than motor vehicles and motorcycles,
(44) Road and pipeline transport,
(45) Transportation by water,
(46) Air transport,
(47) Storage and support activities for transportation,
(48) Post and postal service activities,
(49) Residence service activities,
(50) Food and beverage service activities,
(51) Publishing activities,
(52) Activities of publishing and producing television and video programmes,
films, and recorded sounds,
(53) Radio and TV broadcasting activities,
(54) Communication,
(55) Software and computer consulting activities,
(56) Information service activities,
(57) Financial intermediation other than insurance and provision of credits for
retirement pensions,
(58) Insurance and provision of credits for contract pensions, except for
compulsory social security,
(59) Auxiliary activities for financial intermediation,
(60) Real estate and leasing activities,
(61) Legal and accounting activities,
(62) Activities of the main centers and consulting expertise,
(63) Architectural and engineering activities, technical testing, and analysis,
(64) Scientific research and development,
(65) Advertising and market research,
(66) Other specialized scientific and technical activities,
(67) Veterinary activities,
(68) Hire and leasing activities,
(69) Employment activities,
(70) Travel agency, tour operator, and reservation service activities,
(71) Security and surveillance activities,
(72) Building service activities,
(73) Executive office service activities and special office assistant activities,
(74) Education,
(75) Activities related to human health,
(76) Resident care activities,
(77) Social work activities without residence,
(78) Theater, musical, and leisure arts activities,
(79) Activities of libraries, museums, document houses, and other cultural
activities,
(80) Gambling and betting activities,
(81) Sports and leisure activities,
(82) Activities of member organizations,
(83) Repair of computers and personal and household goods,
(84) Other personal services activities.
Annex B – Geographical Distribution of Labor Productivity and

Drivers
Annex C – SEM Model Fit Indices
Clustering Definition
Employment Establishments Capital Output
Number of model 19 16 16 16
parameters
Number of observations 27 27 27 27
Test statistic 0.915 1.775 2.221 2.147
DF 6 6 6 6
p value (chi-square) 0.989 0.939 0.898 0.906
Comparative fit index (CFI) 1 1 1 1
Tucker–Lewis index (TLI) 178.292 60.25 6.336 6.798
Loglikelihood user model 99.82 57.33 48.155 47.742
(H0)
Loglikelihood unrestricted 100.277 58.218 49.265 48.815
model (H1)
Akaike (AIC) 2161.639 282.661 264.310 263.483
Bayesian (BIC) 2137.018 261.927 243.576 242.750
Sample size–adjusted BIC 2196.044 2111.633 293.282 292.456
RMSEA 0 0 0 0
p value (,50.05) 0.991 0.948 0.912 0.919
SRMR 0.036 0.049 0.060 0.058
Annex D – Correlation Matrix Including Competition Indicator
202
Labor Productivity Labor Productivity Competition Cluster Cluster Cluster Cluster
per Worker per Hour Employment Establishments Capital Output
Enas Moustafa Mohamed Abousafi et al.

Labor productivity 1.000 0.642 0.303 0.292 0.276 0.318 0.320
per worker
Labor productivity 0.642 1.000 0.564 20.025 20.097 0.022 0.022
per hour
Competition 0.303 0.564 1.000 0.318 0.232 0.378 0.366
Cluster employment 0.292 20.025 0.318 1.000 0.980 0.989 0.993
Cluster 0.276 20.097 0.232 0.980 1.000 0.967 0.964
establishments
Cluster capital 0.318 0.022 0.378 0.989 0.967 1.000 0.997
Cluster output 0.320 0.022 0.366 0.993 0.964 0.997 1.000
Annex E 2 Pearson and Spearman Rank Correlation Matrices

Between Industrial Cluster Indicators
Pearson Correlation Matrix

Capital Employment Establishments Output
Capital 1.000 0.989 0.967 0.997
Employment 0.989 1.000 0.980 0.993
Establishments 0.967 0.980 1.000 0.964
Output 0.997 0.993 0.964 1.000
Spearman Rank Correlation Matrix
Capital Employment Establishments Output
Capital 1.000 0.900 0.772 0.955
Employment 0.900 1.000 0.908 0.922
Establishments 0.772 0.908 1.000 0.799
Output 0.955 0.922 0.799 1.000

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Chapter 6

Industrial Clusters and the Five Drivers of

Keywords: Labor productivity; regional studies; Egypt; industrial clusters;

Industry Clusters and Innovation in the Arab World, 157–203

into account the covariances between independent variables is of crucial

The Five Drivers of Productivity

. . .a new or improved product or process (or a combination

The Oslo Manual distinguishes four types of innovation activities: product

innovations. In recent decades, it has become increasingly important to

level of innovation-led R&D activities within ﬁrms in a given region. As a result,

Furthermore, ﬁrm-level studies in the United Kingdom have reported positive

Industrial Clusters and Productivity

precludes the consideration of cross-sectoral externalities as well as of subnational

measured in terms of sectoral concentration of workers, establishments, invest-

Data and Statistical Methods

• For employees, the variable “Total number of workers” (“‫”ﺝﻡﻝﺓ_ﻉﺩﺩ_ﺍﻝﻉﺍﻡﻝﻱﻥ‬

Enas Moustafa Mohamed Abousaﬁ et al.

Drivers of Regional Productivity

Table 6.2. Main Indicators by Industrial Sector.

Industry Employees Establishments Gross Value Gross Fixed

Table 6.2. (Continued)

We estimated two indicators of labor productivity – output per worker and

Table 6.3. Surveyed Establishments in the Egypt Enterprise Survey 2016.

Region Surveyed Establishments

chose to measure the degree of competition within a region is to do with

The Hausmann–Klinger Proximity Matrix

Abdelaziz, El-Enbaby, Zhang, and Breisinger (2018) applied this technique to

With these proximity measures, we obtain an industrial proximity matrix, from

Concerning competition as an explanatory variable, we can only provide

Table 6.4. Industrial Clusters by Governorate.

Governorate Employment Establishments Capital Output

Employment Establishments Gross Capital Formation Output

Drivers of Regional Productivity

Table 6.6. Results of Structural Equation Models With Composite Industrial

Labor Productivity per Labor Productivity per

Another way to assess the relative importance of agglomeration economies on

Fig. 6.1. Structural Equation Models With Composite Industrial

Table 6.7. Regression Results.

Labor Productivity per hour

fostering economies of agglomeration. Our limited size of observation units (27

Long, C., & Zhang, X. (2012). Patterns of China’s industrialization: Concentration,

Annex A – Full List of Industrial Sectors

(31) Other manufacturing industries,

Annex B – Geographical Distribution of Labor Productivity and

Annex C – SEM Model Fit Indices

Enas Moustafa Mohamed Abousaﬁ et al.

Annex E 2 Pearson and Spearman Rank Correlation Matrices

Pearson Correlation Matrix

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