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New economic geography has become a mantra for many economists, geographers, and regional scientists. Many recent studies have tested the importance of economic geography for production activities and found a significant association between them. Most of these studies, however, have not taken into account that productivity gains from economic geography, if any, are conditional on firm-location choice. This article illustrates a potential bias that can arise when firm-location choice is not considered in estimating the contribution of economic geography to firm performance. An analysis using microdata of Indian manufacturing firms shows that there is an upward bias in the contribution of economic geography to productivity when firm-location choice is not jointly taken into account as part of production decisions.
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Koo et al. (2006) studied this question.
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