BUSINESS CLUSTERS IN THE SOUTH: A CRITICAL APPRAISAL FROM INDONESIAN EVIDENCE

Singapore Journal of Tropical Geography, 26(2), 2005, 227-243© Copyright 2005 Department of Geography, National University of Singapore and Blackwell Publishers Ltd

INTRODUCTION

In recent decades, claims have beenfrequently made that businesses located inclusters gain a competitive edge over industryoutside a cluster. Management gurus suchas Michael Porter (1998; 2000) have perhapshad the largest single influence on theadvocacy of cluster advantages. Furtherimportant participants in cluster advocacyinclude economic geographers, such as thework of the “California school” proponentsof flexible specialisation and innovativemilieux (Newlands, 2003). This revived alongstanding research interest in the businessclusters found in developing economies,encouraging new claims about clusterpotential in the light of optimisticinterpretations of Italian industrial districtsand other high profile examples (van Dijk &

Rabellotti, 1997; Schmitz & Nadvi, 1999). Aftermore than a decade of cluster enthusiasm,signs of a break in the consensus haveemerged. New research has raised doubtsabout the evidence endorsing businessclusters in high income economies (Sorenson& Audia, 2000; Malmberg & Maskell, 2002;Martin & Sunley, 2003). Other research onchanges within exemplar clusters suggeststhat external conditions can play a larger rolein cluster formation than can localisationadvantages. For example, “classic” descrip-tions of Italy’s industrial districts have beenfound to fit a decreasing minority of the actualclusters (Paniccia, 2002). In the light of suchreappraisal, it is timely to take a critical lookat the evidence for business clusteradvantages in developing economies.

BUSINESS CLUSTERS IN THE SOUTH: A CRITICALAPPRAISAL FROM INDONESIAN EVIDENCE

Martin PerryDepartment of Management and Enterprise Development,

Massey University, Wellington, New Zealand

ABSTRACT

Advocacy of the advantages accruing to business clusters in developing economies has followedthat in developed economies. With doubts emerging about the evidence for these in developedeconomies, it is therefore appropriate to review the experience in the developing world. A model ofcluster emergence and growth has guided accounts of developing country clusters. Drawing onexperience from Indonesia, doubts are raised about that model’s prediction of the emergence ofsuccessful joint action in maintaining cluster advantages. Any advantages from clustering areinsufficient to face development challenges arising from the globalisation of economic activity.The significance of business clusters in low income economies needs to be reviewed in the lightof actual experience and the reappraisal emerging in developed or high income countries.

Keywords: business clusters, business location, development, Indonesia, cluster theory

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Compared with the occurrence of businessclusters in high income economies, there areadvantages and disadvantages of studyingclusters in the South. A greater tendency forbusinesses to cluster in low income economiesthan in high income economies is a researchadvantage. There is no precise measurementto indicate the scale of the difference but it isknown that clusters are common in a widerange of developing countries and sectors(Humphrey & Schmitz, 1995). Developingcountry clusters typically exhibit a moreextreme form of concentration and are oftencentred within a single community that has aclear economic specialisation in a singleactivity, such as basketry, dying, weaving ormetalwork. Unlike the ambiguity surroundingthe identification of clusters in developedeconomies, therefore, here the existence ofclusters is unquestioned. In many cases thespecialisation has a long unbroken history but,equally, new clusters can be found. In India,for example, an incipient biotechnology clusterin Hyderabad has been reported that comple-ments an existing concentration of softwareservices (Financial Times, 14 August 2003). Along history of public agency assistance toclusters also makes the developing countryexperience of interest, as this review illustratesin the case of Indonesia.

On the downside, cluster prominence hasnot produced a uniform developing countryexperience. Consequently, although much ofthe literature on developing country clustershas emphasised their potential role instimulating business growth and economictransformation (Schmitz, 1995a), in realitycluster development is variable. One per-spective sees a continuum of clusters, fromthose embedded in the informal sector to thoseinvolving “advanced” producers (Altenburg& Meyer-Stamer, 1999). Others point to thegeographical variation between regions. Atone extreme, in most sub-Saharan Africancases, clustering has had minimal impact onthe progress of industrialisation (McCormick,1999). At the other extreme, there are clustersin Latin America and Asia that have been seen

as the vanguard for economic modernisation.In Taiwan and South Korea, some small firmsin computer industry clusters have grown intoglobal corporations and played a significantrole in propelling their economy’s transitionto high income status (Levy & Kuo, 1991;Mathews & Cho, 2000). On a lesser scale, theseregions have many clusters that have movedfrom serving local to international markets,sometimes sustaining their competitiveness inthe context of decreased domestic tradeprotection (Rabellotti, 1999).

The key issue for this critical review iswhether clusters necessarily promoteenterprise growth. The starting point is themodel of cluster development proposed bySchmitz (1995a) which has been influential inencouraging the view of clusters as a mecha-nism through which low income economiescan accelerate business upgrading. Usingevidence drawn from existing studies ofbusiness clusters in Indonesia, the reviewargues that this model gives insufficientattention to the contingent conditionsrequired for sustained business growth withinclusters. Indonesia has a particularly pro-nounced and well-documented occurrence ofbusiness clusters, including over 20 years ofindustry development policy directed atclusters. As a newly industrialising economythat, at least up to the late 1990s, wasexperiencing rapid economic growth, it waspossible to observe cluster transformationsover relatively short periods of time. This givesa depth of experience to draw upon. It remainsto be judged whether the Indonesianexperience matches that elsewhere in theSouth. However, the final section of the reviewclaims some consistency with the experienceof clusters in Pakistan and Brazil whichinformed the cluster development model.

A MODEL OF CLUSTEREMERGENCE AND GROWTH

From case studies of individual clusters,Schmitz, (1995a) has proposed a model ofcluster development that simplifies diversity,

while claiming to capture key transitions inclusters that become centres of enterprisegrowth (Schmitz & Nadvi, 1999:1504). Forindividual businesses, the model proposes thataccess to cluster advantages depends simplyon being located within its geographical reach(Figure 1). Cooperation within clusters isunplanned and each participant has equalaccess to the economies of agglomeration.Greater advantage is obtained as businessestake deliberate actions to benefit from clusterresources. Such planned action depends onnegotiation among selected (dominant) clusterparticipants. Cluster advantages are subse-quently unevenly distributed according to thewillingness and ability of businesses toengage in planned action. Some clusters(probably most) never achieve significantplanned action and survive without becomingsites of industrial growth. Clusters that do willbecome populated by individual enterprisesthat are increasingly differentiated in size,resources, markets and growth ambition.

Differentiation will eventually cause thedisintegration of the cluster unless there ispublic intervention to spread opportunities forplanned action among those that are excludedfrom private negotiation.

This account emphasises two key transitionpoints in the development of individualclusters: (i) from unplanned to plannedadvantages; and (ii) from exclusive to inclusiveopportunities to participate in planned action.The first issue to explain, therefore, is whyunplanned advantages alone cannot sustainenterprise growth.

Unplanned advantages at the outset of acluster are linked to the resource constraintsfacing industrialisation efforts in low incomeeconomies. Clustering reduces the scale ofeffective investment by enabling resources tobe shared. Investment is divided into smallersteps than where production commences inisolation or among dissimilar activities

Source: Based on Schmitz (1995a).

Figure 1. The Schmitz model of cluster development in low income countries .

Open access to cluster advantages

Cluster advantages allow short steps to advance industrial development

Cluster overwhelmed by market & industry change

Planned action allows dominant enterprises to take large steps in business upgrading

Public agency intervention widens access to planned action

Dominant enterprises develop national or international linkages that lessen their dependence on the cluster

PURE CLUSTER DIFFERENTIATED CLUSTER

FRAGMENTING CLUSTER

Business Clusters, Indonesian Evidence 229

(Schmitz, 1995a). For example, when thefirstmovers undertake related activities inclose proximity, individual enterprises and theimmediate environment adapt to the collectivepresence. One person’s decision to specialisein a particular task or move into a service rolegives opportunities to others. Producers donot have to acquire equipment for the entireproduction process; they can concentrate ona specific task and leave others to completethe process. Similarly, small amounts of humancapital increase in value as complementaryskills become more available. Specialisedworkshops to repair and upgrade equipmentfurther reduce the barriers to entry. In effect:

the enterprise of one creates a footholdfor the other… ladders are constructedwhich enable small enterprises to climband grow. It is a process in whichenterprises create for each other – oftenunwillingly, sometimes intentionally –possibilities for accumulating capitaland skill (Schmitz & Nadvi, 1999:1506).

Being unplanned, clusters are easy to form.For example, gaining access to market linkagesdoes not rely on coordinated action. Tradersmay appear simply by having heard of theexistence of the cluster (McCormick,1999:1533). However, by making it possible toadvance in small steps, the accumulation ofcapital and skills is correspondingly small(Schmitz & Nadvi, 1999). Consequently, thecluster remains vulnerable to changes inproduction technology or markets that requirequick responses to maintain business viability.

Deliberate planned action enables largesteps in enterprise growth based onincremental investment with comparativelyhigh demands on capital and entrepreneurialresources. It typically depends on negotiatingjoint action so as to lessen the exposure torisk. The joint action may be multilateral, asthrough support for a trade association thatassists technology transfer or collectiveinvestment in shared equipment or infra-structure (Schmitz, 1997). Bilateral cooperation

is most frequent because it is easier tonegotiate. Whatever form it takes, joint actioncan upgrade enterprise capacity to the levelthat market challenges may be effectivelyresponded to. The limitation is that only aminority of entrepreneurs have the vision andcapacity to initiate planned action and thesepersons tend to monopolise the resultingbusiness advantages.

Reconciliation of increasing internalheterogeneity with the survival of a cluster isthe final aspect of the cluster developmentmodel. As the challenges facing a cluster’sgrowth increase, the willingness or ability toparticipate in joint action intensifies differen-tiation between cluster enterprises. In clustersthat have become exposed to internationalcompetition, for example, multilateral actioncan be resisted by larger producers who seethe opportunity to respond individually to thepressures being faced. Thus, the modelidentifies public agency intervention as themechanism for resolving internal differenceand providing wider access to joint action thancould arise with private initiative alone. Assuccessful firms rarely decide to move out ofthe cluster in which they started, publicagency intervention can be effective (Schmitz,1999:1630).

This model of clusters development differsfrom many accounts of clusters in high incomeeconomies and, in some respects, can be seento offer a more realistic assessment of clusterpotential. High income clusters are presentedfrequently as self-organising entities thatresolve internal conflicts without consciousjoint action. Porter (1990; 2000) originally drewattention to clusters on this basis as a way ofexplaining the export specialisation ofindustrialised economies. He argued that suc-cessful export-orientated industries emergedas a result of interactions across groups ofinterrelated firms and industries that wereespecially effective where activity was co-located. Market processes assisted by factorendowments and fortuitous circumstancesrather than deliberate intervention explained

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the growth of these clusters. Similarly, manyeconomic geographers see clusters in highincome economies as resulting from untradeddependencies that promote localised learningthrough informal channels and the operationof external labour markets (Malmberg et al.2000; Leamer & Storper, 2001; Pinch et al.2003). This may question the interpretationoffered by the developing country clustermodel. However, three observations suggestthat any difference between high and lowincome cluster experiences is only a matter ofdegree.

First, the emphasis on self-organisingclusters is not consistent. Porter (1998) has,for example, drawn attention to a cluster of400 medical device companies in Massachu-setts that employed close to 40,000 workersbut lay dormant until revealed through a searchfor potential clusters. Once revealed, businessexecutives came together to consciouslyexploit the advantage of belonging to a cluster.Similarly, Porter (2003) has recently developeda cluster mapping procedure designed to helpregional agencies plan cluster development.

Second, the challenges facing export-orientated clusters linked into global valuechains are differentiated more by governanceof the chain than the location of the cluster(Humphrey & Schmitz, 2002). Networked valuechains comprised of firms in relationships ofreciprocal dependence are most conducive forcluster upgrading as they involve jointdecision making. They are most likely to linkclusters in high income economies but canexist anywhere.

Finally, there is uncertainty about thesignificance of untraded dependencies in thedevelopment of clusters in high incomeeconomies (Martin & Sunley, 2003).Investigations of the opto-electronics andnon-broadcast visual communications indus-tries, for example, find little evidence oflocalised learning as an explanation for clusteremergence (Hendry et al., 2000; Oakey et al.,2001). In these industries, clustering reflects

the origins of firms rather than any consciousor unconscious efforts to exploit co-location.

The developing country model cannot bedismissed on grounds of its outrightinconsistency with developed countryexperiences. This review accepts the model asa starting point for evaluating clusterswherever they are located but suggests thatthe omission of how industry characteristicsshape cluster opportunities is a significant gapin the model. Rather than geographic concen-tration giving rise to particular developmentopportunities, this review argues that it is moreappropriate to view particular patterns ofindustrial development as making use ofclusters when they fit prevailing opportunitiesin the industry. Clusters can gain prominencefor a period without achieving long-termsignificance. This perspective on clusters,which can be applied equally to high incomeclusters (Perry, 2005), suggests thatencouraging enterprise concentration isrelevant only in the context of supportiveindustry conditions.

THE INDONESIAN EXPERIENCE

This section augments the model of clusterdevelopment proposed by Schmitz (1995a) byidentifying four issues that can stymie clustergrowth that are not incorporated in the originalmodel (Figure 2). This discussion draws onevidence from Indonesia, where small-scaleindustry has shown a pronounced tendencyto cluster. A further attraction of the Indonesianexperience is that the Ministry of Trade andIndustry maintains a record of clusters (sentraindustri), defined as geographical groupingsof at least 20 similar small enterprises, or lessif some of the enterprises export all or part oftheir production. On this basis, there arearound 25,000 clusters in Indonesia providingemployment for close to two-thirds of allpersons working in cottage and small-scalemanufacturing (Sandee & ter Wengel, 2002).This includes clusters found in urban and ruralareas. Examined as a proportion of ruralsettlements, around 10,000 villages (14 per


cent) have registered a sentra industri (Weij-land, 1999). Such frequency, for example, isahead of India, which has over four times thepopulation of Indonesia (UNIDO, 2000). Theseattributes partly explain the intensive researchon Indonesian clusters from which this reviewabstracts four experiences that need to be builtinto the evaluation of cluster significance.

First, the model put forward by Schmitz(1995a) accepts that many clusters fail toprosper and suggests this is connected to thecapacity to promote planned action.Indonesian experience suggests that theoccurrence of planned action should be viewedas an outcome of industry characteristicsrather than an aspect of entrepreneurialcapacity or risk taking. Further, thesesupportive conditions are found in activitieswith the highest investment demands.

Second, while the model recognises thatjoint action can take various forms, it tends toassume that any form is a basis for enterprisegrowth. The Indonesian experience points tothe importance of recognising the precise formthat business relationships take. A criticaldimension, for example, is the extent to whichclusters are associated with capacity orspecialisation subcontracting. Specialisationsubcontracting tends to be associated withstrategic relationships among firms that retainindependent capacity for growth. This formof subcontracting is most conducive to clusterupgrading but is less frequent than capacitysubcontracting.

Third, the model makes little reference tothe relationship between a cluster and itsexternal environment. Without an assessmentof how industry and market conditions shape

Figure 2. A model of cluster development based on the Indonesian experience.

In industries with scope for business specialisation, cluster advantages allow short steps to advance industrial development

Cluster overwhelmed by market and industry change

Planned action allows dominant enterprises to take large steps in business upgrading

Public agency intervention widens access to planned action in clusters where businesses are already growing

Dominant enterprises develop national or international linkages that lessen their dependence on the cluster

Open access to cluster advantages

Planned action results in the growth of external linkages rather than intra-cluster networks

Upgrading insufficient to withstand industry modernisation, especially if capacity subcontracting is the main joint action

PURE CLUSTER

DIFFERENTIATED CLUSTER

FRAGMENTING CLUSTER

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the opportunities for growth, the power of acluster can be exaggerated. For example,Indonesian experience points to theimportance of external buyers in controllingopportunities for a cluster. An importantinfluence on cluster opportunity is the extentto which buyers develop loyalty to individualclusters or prefer a strategy of shifting ordersaccording to short-term opportunities.

Finally, notwithstanding Indonesia’s longhistory of public policy intervention to promotecluster growth this has been shown to haveachieved little, although it has sometimesassisted clusters that are already growing toovercome constraints to business expansion.From this experience, it is argued, that thecluster development model’s confidence in theability of public agencies to organise effectiveintervention is based more on the theoreticalpossibility of coordinating action to overcomemarket failures than on demonstration that thisis achieved in practice.

Cluster diversity in IndonesiaThe uneven performance of business clustersin Indonesia has been identified as their mostoutstanding characteristic. While someclusters have become home to internationallycompetitive exporters, many are dormant andsome have “remained so poor and stagnantthat one might wonder whether their producerswould not be better off elsewhere” (Weijland,1999:1520). Thus, while the Schmitz modelsuggests a development trajectory is open forclusters, it appears that few are able to achieveit. Most Indonesian clusters are associatedwith rudimentary forms of production (e.g.palm sugar) that display many characteristicsof the informal sector (Burger et al., 2002).The larger developing economy experienceindicates that there is generally no transitionfrom this scale of enterprise to participation inthe modern sectors of the economy (Liedholm& Mead, 1999). Similarly, many developingeconomy clusters originate in the processingof local resources. Under conditions of non-sustainable resource harvesting, these have alimited life. Similarly, a differentiation is required

between artisan-based clusters and thosebased on mechanical forms of production.

Optimism in cluster potential in Indonesiais based partly on the overall dynamism ofsmall-scale enterprise (Hill, 2002). At a time ofrapid industrialisation and economic growthfrom the mid-1980s to the late 1990s, the sizedistribution of firms in the manufacturingsector appeared to remain unchanged. Aseconomic growth was not associated with anincreasing dominance of big business, andbecause small enterprises are concentrated inclusters, it might appear that clusterscontributed to enterprise success (Sandee etal., 2000:187). Direct evidence comes mainlyfrom micro-level studies that identifydifferences in cluster performance rather thana uniform advantage in clustering (Hill,2002:168). As well as the potential significanceof clusters, small enterprise was helped by apolicy environment that was increasinglyconducive to doing business (Schiller &Martin-Schiller, 1997). One particular success,for example, was the growth of effectivebanking facilities for small-scale enterprisesuch as that provided by Bank RakyatIndonesia (Perry, 2003).

One of the most detailed sources ofevidence on Indonesia’s clusters is a statisticalprofile of rural clusters in Central Java in thelate 1980s, derived from the government recordof sentra industri (Sandee, 2002:67). CentralJava still accounts for 40 per cent of allIndonesia’s village-based clusters and offersa good profile of rural clusters. The mostnumerous clusters are based on activities thathave the lowest investment costs and lowestgross output, for example, bamboo weaving,ceramics and palm sugar production. Someopportunities exist to specialise in compa-ratively high-value products but generallythese are marginal activities carried out by ruralhouseholds in the absence of more rewardingincome-generating opportunities. In contrast,embroidery and garments enterprises arebased on comparatively high investment andcan provide sustainable incomes. In either


case, most clusters have a long historyproviding the basis for meaningful comparisonof their impact.

Data derived from the 1989 sentra industrisurvey have been used to relate enterprise andcluster size to investment and gross output.Weijland (1999) summarises the results forclusters based on three contrasting activities:bamboo weaving, a fermented soybeanproduct (tahu) and garment making. These arerepresentative of activities with differing entryrequirements in terms of financial investmentand skills, and the market area over whichoutputs are sold. Enterprise, cluster value-added and investment were compared withenterprise and cluster size, reporting thefollowing findings.

The scale of employment or investment hadno impact in improving the value-added ofbamboo enterprises; in fact, there tended tobe a negative relationship. Cluster size,measured by the number of enterprises andtotal investment, did have a positiverelationship with the value-added for thecluster as a whole. This was interpreted asindicating some benefits from clustering inotherwise dismally marginal activities. Thetahu production had characteristics that werethe opposite of bamboo weaving. Individualenterprises tended to gain by increasing theiremployment and investment, but the size ofcluster appeared to have little impact onenhancing value-added. Finally, the garmentssector displayed complex results. Enterprisesgained more from increasing their employmentthan did clusters, while the reverse applied toinvestment. Investment brought significantlylarger gains for the cluster as a whole than forthe individual enterprise.

These results suggest that clusteradvantages vary with the industry forming thecluster. Bamboo weaving is a traditional craftusing little or no machinery and supplying asaturated market. There is limited scope forindividual enterprises to grow. While workingin a cluster appears to improve individual

enterprises, the activity remains a marginalsource of income. Buyers can divide ordersamong multiple weavers and achieve econo-mies in collecting products. The fermentedtahu is a perishable product that requires swift,quality-controlled production for delivery tomainly local markets. Individual enterprisesmay have comparatively well-equippedkitchens, but the product does not suit equip-ment sharing. Clustering appears to have littleimpact on performance partly as the productis not susceptible to order sharing or subcon-tracting. Garment production is based on smallenterprises utilising comparatively expensiveequipment. Utilisation of equipment can bemaximised through specialisation and dividingorders among subcontractors. Operating in acluster also improves the capacity to link todistant markets without the need for individualproducers to invest in marketing.

Business interaction within clustersIn the Schmitz model, the development ofsubcontracting is one of the main results ofplanned action that helps enterprises take largersteps than when cluster advantages areunplanned. Subcontracting can encouragespecialisation between enterprises andprovides opportunity for resource sharing andjoint learning. This would be a significantcontribution in Indonesia. Investigations in the1980s found that subcontracting was limited,fluid, sometimes characterised by opportunisticbehaviour and not a basis for enterprise growth(Thee, 1994). Subcontracting networksstrengthened as Indonesia’s industrialisationdeepened after the 1980s (Hill, 2002:170). Urban-based, modern sector firms played the key rolein upgrading subcontracting networks, as inthe case of the motorcycle industry (Thee,1997). Evidence that clusters contributed to agrowth in subcontracting is mixed.

The roof tile cluster in and around thevillage of Karanggeneng in Boyolali provincein Central Java has been claimed to show howintra-cluster subcontracting networks havehelped sustain a cluster (Sandee & Weijland,1989; Sandee et al., 2000; Sandee, 2002). Tile

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clusters have faced a transition from traditionalmethods to pressing, requiring a significantincrease in the use of equipment such as mixersand presses. Coordinated change followedvisits by groups of producers from Karang-geneng, to clusters elsewhere that had alreadymade the shift, leading to the development ofsubcontracting ties within the cluster. As theSchmitz model might predict, increasedinequality between enterprises resulted. Thelargest enterprise operated seven presses in2002 and employed 34 workers; another 13presses were rented out to other producersused as subcontractors to help completeorders. It remains unclear whether the shift tocoordinated action in Karanggeneng will besufficient to see the cluster’s survival. AcrossIndonesia the number of roof tile clusters hasdeclined as demand for industrially producedtiles has grown. As well as this market shift,Karanggeneng is challenged by a scarcity ofgood quality local clay and firewood supplies.Long-term survival will require the cluster todiversify into ceramic production, but thisinvolves a more radical shift in technology andskills than that achieved through the shift tocapacity subcontracting.

There is some evidence that linkage toexport markets may provide more likelihood ofintra-cluster specialisation. Export agents tendto have direct relations with only a few leadsuppliers in a cluster. As production iscontrolled by the allocation of orders, leadsuppliers may use subcontracting to manageuneven order flows and investment inmachinery. In contrast, linkages to domesticurban markets may be established directly byindividual cluster enterprises reducing theincentive to work with other enterprises in thesame cluster.

The wooden furniture cluster in Jeparadistrict illustrates the role of exports instimulating intra-cluster networks. Jepara hasbeen one of the most successful clustersdocumented (Sandee et al., 2000). Situated onthe north coast of Central Java, close to 60,000people are employed in over 3,000 enterprises

located in more than 100 villages. Microenterprises dominate but there are more than100 establishments that each employ over 100workers. Furniture production in Jepara startedin precolonial times but its modern prominencedates from the 1980s. Increased economicaffluence in Indonesia expanded the domesticmarket for quality furniture. Leading producersfrom Jepara sought to capture this demand bysetting up representative offices in main citiesand by establishing a satellite cluster in theKlender area of Jakarta, Indonesia’s largest city.Domestic production occupies over half thecluster’s employment (Sandee et al., 2000).

Currency devaluation in 1986 was astimulus to export production. By 2000, thecluster exported to 68 countries. Subcontrac-ting networks are a feature of the cluster withsome export items combining work completedby five or more subcontractors. A significantconcentration of export capacity is the otherside of intra-cluster subcontracting. The top10 firms control about 50 per cent of exports(Schiller & Martin-Schiller, 1997:6). Althoughaimed at low income buyers, exporting requireda higher quality of furniture construction,including pretreatment of the timber to preventwarping or cracking in countries less humidthan Indonesia. Foreign buyers hastened theupgrading by establishing new factories in thecluster, typically through joint ventures. Asmall but significant source of this investmentcame from Western immigrants married toIndonesians (ADB, 2001:11). This participationintroduced furniture designs geared to foreigntastes and power-driven equipment. Someproducers have independent access to exporttrade networks but most production forexports is now controlled by foreign buyerson an order-by-order basis.

A detailed study of Ceper, the “village offoundries”, provides evidence that apart fromthe distinction between capacity andspecialisation subcontracting, the distinctionbetween local and non-local subcontractingties is also important. In the case of Ceper, theimportant linkages for cluster enterprises are


to businesses outside the cluster (Sato, 2000).Located within Klaten district, halfwaybetween Solo and Yogyakarta in Central Java,Ceper has a history dating back severalcenturies and today has close to 350 metalcasting enterprises. In the 1980s, the numberof furnaces more than tripled and the use ofmachine tools became widespread. In the late1990s, the cluster accounted for almost a thirdof Indonesia’s annual metal cast production.Enterprises were of three types: (i) a top tier ofabout 10 large foundries with integratedmachining and assembling processes,sometimes augmented by subcontracting tolower-tier foundries in the cluster; (ii) medium-sized enterprises with machine tooling,enabling processing of cast products, andaccounting for around 70 per cent of theindustry’s employment; and (iii) small home-based foundries specialising in casting andaccounting for around 60 per cent of clusterenterprises. Production is mainly to satisfyspecific orders. These orders may come froman assembly business (in which case,semiprocessed components are supplied); awholesaler or retailer (in which case final goodsor replacement components are supplied); oran end user such as a factory or a public worksproject seeking equipment parts.

Sato’s (2000) survey of a sample of Ceperenterprises found that all types of business inthe cluster had direct links to customersoutside the cluster. These linkages wereimportant sources of enterprise development,although this partly depends on the inclinationof particular buyers and the nature ofindividual trading relationships. Overall, it wasconcluded that enterprises favoured integra-tion over specialisation and that linkages withfirms outside the cluster were preferred overties to their neighbours. According to Sato(2000:159):

The firms seem to feel uncomfortablewith (or reluctant to be forced into)being in the lower layer of a verticaldivision of labour within the cluster.They are not inclined openly to

exchange market or product informationon their orders with other firms in thecluster. As a result, every firm has awide product range, and developmentof intra-cluster specialisation anddivision of labour is limited.

Passive search and reach effects were the mainsignificance of clustering. Ceper’s highaccessibility to the wider economy, facilitatedby centrality to a number of urban markets,transport connections, trade and informationnetworks were suggested to explain theoutward orientation of cluster enterprises.These connections were significant becausethe cluster served the domestic market.

The external environment andclustersIn support of the developing country clustermodel, Schmitz and Nadvi (1999:1506) refer tothe Taiwanese computer industry as bestdemonstrating cluster facilitating investmentin small risk-reducing steps. This example canequally be used to illustrate the tendency forthe model to downplay supporting externalconditions. An explanation of the growth ofTaiwan’s computer industry is incompletewithout reference to the larger restructuringof electronics production that presented theTaiwanese cluster with opportunities forgrowth (see Numazaki, 1993; Robins 1998). Ona smaller scale, the Indonesian experienceshows the important role played by tradersand trading houses in linking clusters to exportmarkets. These agents can operate withstrategies that limit opportunities for individualclusters.

As well as providing access to new salesoutlets, traders help clusters modify designsof traditional products, give advice onproduction improvements and may assist infinancing equipment. Typically, the tradershaving a significant impact on clusters areconnected to the markets that they serverather than the areas that they buy from.Sandee and ter Wengel (2002), for example,relate the case of rattan processing clusters

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in south Kalimantan that were transformedfrom making low-value products for localconsumers into exporters of mats to Japan.The stimulus for change is credited to aJapanese businessman, who made the newspecialisation possible by introducingtechnology and product ideas. After an initialsuccess, which saw several clusters participatein the new trade, the Japanese market declinedbecause of consumer resistance to the productquality. Improvements in production equip-ment were required, in which the Japanesebuyers were reluctant to assist as the clusterswere selected for a rudimentary activity andthere were opportunities to source productsfrom elsewhere in Indonesia where buyers canbe more confident of quality. The experiencemay be unusual but it illustrates how tradersmay promote upgrading without developinglong-term commitment to the clusters withwhich they trade. In this context, the develop-ment of homegrown buying organisations issignificant although these tend to be restrictedto handicraft sectors. For example, the People’sHandicraft Marketing Service (Pekerti Nusan-tara) handles output from over 60 clusters inIndonesia (Sandee & Ibrahim, 2001:25).

More generally, cluster development isintimately connected to larger transformationsin economic development. Indonesia has bene-fited from Southeast Asia becoming one ofthe world’s leading emerging markets since the1970s (Chia, 2003). This transformation cameabout through the enormous investment in theregion by multinational enterprise and theincreased openness of markets. Indonesia nowhas wealthy neighbours with demand forcluster products in the form of mass-marketedclothing or handicrafts. Indonesia’s owneconomic growth has stimulated domesticdemand, for example, in the expansion of urbanhousing. An exposure to foreign tastesthrough international tourism has also beensignificant to some clusters (ADB, 2001). TheBali garment industry cluster is a prime example(Cole, 1998). Therefore, cluster successes donot indicate the viability of a bottom-upapproach to economic development.

Indonesian cluster interventionThe evidence of a third stage in clusterdevelopment promoted through public agencyintervention is patchy. There has beenconsiderable effort by public agencies tosupport cluster development both through acluster-wide strategy and through help toindividual clusters. Generally, intervention thathas sought to prescribe a mode of organisationor cooperation has had limited impact. Thus,efforts over many years to organise clusterparticipants into business groups for thepurposes of providing credit, marketing andtraining support have generally not resultedin clusters forming cooperatives as intendedby the programme (Weijland, 1999; Sandee &ter Wengel, 2002). Similarly, investment incommon service facilities such as processingequipment have rarely worked (ADB, 2001:12).To encourage use of such facilities so thatthey would engender cooperation and co-learning, facilities typically remained in publicownership and charged nominal user fees.Budget constraints led to equipment becomingoutdated and service quality deteriorating.Separate schemes to promote businesslinkages and technical upgrading appear tohave been no more successful than the otherinterventions. In this case, efforts to linkclusters with a new market that public agenciesdeemed to offer advantages sometimesoverlooked suppliers’ preference to work withtheir existing customers (ADB, 2001:12). Forexample, clusters targeted as potentialsubcontractors to large-scale vehicle manu-facturers frequently preferred to keep theirexisting role as suppliers to numerous smallvehicle repair workshops in nearby large cities.Existing customers tended to be price ratherthan quality conscious. Switching to serve asingle customer with rigorous qualityexpectations was unattractive.

Cluster support has been most effectivewhen assistance coincides with a transition inthe cluster. Support does not lead to highgrowth, but high growth leads to the use ofpublic services, especially those offeringcredit or marketing assistance to help


individual enterprises widen their customerbase. For example, an evaluation covering awoven cloth cluster identified high partici-pation in training provided by a public agency.The training provided guidance in identifyingfashion trends and the making of newproducts according to buyer specifications.Buyers of clothing expect producers to beresponsive to new designs and so the traininghere had immediate benefit.

The case of the Jepara furniture clusterillustrates the challenge facing public policysupport to an individual cluster. The collapseof the Indonesian currency in 1997, part of thelarger Asian financial crisis (Arndt & Hill, 1999;Chang et al., 2001), initially provided stimulusto the cluster. The number of containersexported jumped from around 200 per monthin 1996 to a high of 2,000 per month in 2000.Subsequently exports have fallen, and in 2002were below 1,000 containers per month. It nowappears that the currency-assisted expansiondisguised longer-term weaknesses that todaychallenge the cluster’s future prosperity. Threemain problems confront the cluster, some ofwhich are general to all furniture clusters andsome specific to Jepara. First, quality controlhas not been maintained to the satisfaction ofall foreign buyers, partly as a consequence ofa large influx of workers with no prior experiencein furniture making. In response, some buyersshifted orders to other furniture clusters (andoutside) Indonesia, resulting in an outflow ofworkers and entrepreneurs to emergingclusters. Second, overcrowding and arelatively unfavourable location haveencouraged some producers to move to otherclusters in Central Java. Third, subsequent tothe 1997 financial crisis, the embargopreventing the export of unprocessed logs waslifted (in line with recommendations from theInternational Monetary Fund). This increasedthe price of furniture timber.

The potential for public agencies to helpresolve these problems is unclear. In the past,its major contributions were in facilitating theconversion of a local harbour (Semarang) for

container transport and improving otherinfrastructure. Attempts to establish a timber-buying cooperative to assist small producerswere unsuccessful. In fact, public agencieshave been a source of weakness through theirfailure to control the illegal logging of high-value timber. The failure to ensure a sustainablesource of timber is a potential threat to futureproduction in any form (Sandee & Ibrahim,2001). Local government has taxed the industryheavily at a time when economic deregulationhas reduced other sources of public revenue.

THE INDONESIAN EXPERIENCECOMPARED

How far the Indonesian experience replicatesthe larger experience of business clusters inthe South may be questioned. Clusterdevelopment may have been especiallychallenged by the rapidity of economic change.The Indonesian experience can, however, beseen as consistent with the fate of clusters inother regions that have influenced Schmitz’scluster development model. In particular, theSialkot surgical instruments cluster in Pakistan(Nadvi, 1999) and the footwear industry inSinos Valley, Brazil (Schmitz, 1995b; 1999) weresaid show that clusters in developing econo-mies can adapt successfully to a globalisedmarket environment. More recently, it has beenrecognised that the challenges facing theseclusters were greater than first imagined(Humphrey & Schmitz, 2002). Indeed, thesecases can be used to reinforce Indonesianevidence and the need for amendment of theoriginal cluster development model.

Sialkot, with a population of around660,000, is among Pakistan’s leading centresof manufactured exports. Its exports areconcentrated in three sectors: sports goods,leather garments and stainless steel surgicalinstruments. In recent years, it has been thecentre of international attention because ofthe use of child labour in the manufacture ofsoccer balls (Marcus & Husselbee, 1997). Thesurgical instrument cluster is not free of childlabour and also suffers from management

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problems. In 1994, the United States (US) Foodand Drug Administration (FDA) restrictedimports of Pakistan-made surgical instruments,which represented a major crisis for the clusteras the US was the main market; this was thesecond time it had imposed such a traderestriction. While potentially a challenge tothe cluster development model, Nadvi (1999)interprets the crisis as an example of how publicintervention can sustain cluster growth.

The claim of a successful third phase indevelopment, when a public agency intervenesto spread participation in joint action, wasbased on government funding for SIMA(Surgical Instrument Manufacturers Associa-tion). This supported quality assurancetraining to help SIMA members gain FDA cert-ification. Critically for the stylised account ofcluster development, government supportfollowed reform of SIMA’s executive to makeit inclusive of the interests of small companieswith training needs. Without SIMA’s support,it is argued, only large firms would have beenin a position to purchase training and otherhelp to obtain quality certification. But afterthe quality assurance clampdown, overseasbuyers became less willing to support furtherdevelopment of the cluster. Indeed the newrequirement for quality certification facilitatedthis by giving buyers freedom to make on thespot purchases rather than needing to developclose links with trusted suppliers. Due to itsdependence on intermediary agents rather thandirect ties with brand name suppliers, the long-term future of Sialkot as a centre for surgicalinstruments manufacture remains uncertain.This results, for example, in low prices andexclusion from potentially important sourcesof technological and manufacturing assis-tance.

In the case of the Sinos Valley footwearcluster, Schmitz’s own ongoing investigationacknowledged that it has failed to achieve thetransitions envisaged by his clusterdevelopment model. When he first reportedon the cluster, after a period of growth fromthe 1960s, a number of development challenges

were already evident (Schmitz, 1995b). In the1990s, Sinos Valley, along with the largerBrazilian shoe industry, was affected bycompetition from new centres of productionwhere costs were lower (e.g. China). Suppliersin Brazil had to both raise quality and respondto just-in-time order scheduling, which meantsupplying smaller batches of shoes withshorter delivery times between order andcompletion. High inflation and exchange rateinstability added to Brazil’s difficulties.Although a significant achievement was madein regaining earlier export volumes, whenSchmitz subsequently reported on SinosValley, the cluster’s failure to coordinate“strategic cooperation” was stressed (Schmitz,1999). The unwillingness of the cluster toendorse a “Shoes from Brazil Programme”contrasted with the outcome expected in thecluster development model. The programme,proposed in 1994, was to have lifted theBrazilian footwear industry out of competitionwith other low wage economies throughcooperation in design investment and theformulation of a Brazilian brand image. Theprogramme’s demise was attributed to theresistance of the five largest enterprises whowere unwilling to support a cooperativeapproach to issues that they felt able toaddress individually. With this resistance, thecluster was unable to take the “high road ofglobalization” (Schmitz, 1999:1630).

Consequently, both Sialkot and SinosValley reinforce the need for close examinationof the characteristics and context of clusters,rather than promoting clusters as a way oftranscending development challenges. As withthe Indonesian experience, precise forms ofrelationship among cluster participants helpexplain how well a cluster survives. Where afew firms gain dominance, as in Sinos Valley,the scope for intervention to negotiateplanned action may be especially difficult. Thisis particularly so where suppliers to the clusterdo not act to reinforce collective action.Brazilian leather suppliers had little reason tosupport Sinos Valley as they had connectionsto the industry throughout Brazil and overseas.


In contrast, the suppliers of metal to Sialkot’ssurgical instruments makers had no alternativemarket and more incentive to support theupgrading initiative. High levels of inter-firmsubcontracting also help ensure that largerfirms retain an interest in the collectivewellbeing of the cluster, although it appearsthat the crisis also encouraged larger firms tomove production in-house, thus reducing thenumber of subcontractors given work (Nadvi,1999).

Subsequent to the proposal of the clusterdevelopment model, awareness of thesignificance of buyer-driven commoditychains has grown. The capacity of buyers inindustrialised countries to orchestrateproduction in different parts of the worldseems to reduce their interest in sustainingproduction in any particular locality. Conse-quently, although interest from overseasbuyers initially looked to offer favourableopportunities for cluster development, as inthe rapid growth of places such as SinosValley or Jepara in Indonesia, Schmitz has mostrecently suggested that, in many respects, theclaims for cluster advantages are incompatiblewith the growth of global value chains(Humphrey & Schmitz, 2002). Such valuechains can vary in their governance and,corresponding, the opportunities they offerfor business upgrading. Humphrey andSchmitz (2002) suggest that of four possiblegovernance structures, networks offer the bestprospects for business upgrading. In thisgovernance structure, buyers and sellersinteract, jointly determine the allocation ofactivity and expertise and develop reciprocaldependency. Businesses located in developingcountry clusters are unlikely to findthemselves in such networks. More likely,“arm’s length” or “quasi hierarchy” gover-nance will prevail with constraints on cluster-firm upgrading. The importance of commoditychains for purchasing many manufacturedgoods has added to the reasons to doubt thesustainability of clusters but they were alwaysa more complex phenomenon than allowed forby the cluster development model.

CONCLUSION

The clusters development model proposed bySchmitz (1995a) continues to offer a valuableperspective. It recognises that internal diffe-rentiation among enterprises is an inevitableaspect of cluster development, which presentsa challenge to long-term cluster survival. Thisimproves on many of the accounts of clustersin high income economies that tend to assumethat clusters give rise to a harmonious balanceof cooperation and competition. A number ofreasons to question the model have beenidentified nonetheless based on the Indo-nesian experience and the challenges that theglobalisation of economic activity bring forclusters.

The key argument has been that the modelgives insufficient attention to the industryconditions required for effective clusterdevelopment. Rather than seeing clusters assufficiently powerful to change the conditionson which industries develop, industry deve-lopment shapes the opportunities existing forenterprises located in clusters. This can beseen at the three main stages of clusterdevelopment. Clusters without joint actionsupport enterprise growth only where there isopportunity for specialisation based on theneed for investment in machinery. In Indonesiathis excludes the majority of clusters basedon rudimentary resource processing. Theextent to which planned joint action supportsenterprise growth depends on the forms ofbusiness relationship encouraged. In turn,export-orientated clusters offer the greatestlikelihood of promoting subcontractingrelationships based on specialisation but atthe same time expose clusters to shifts in thewillingness of external buyers to maintain long-term relationships. Finally, there is littleevidence that public agencies can be effectivein resolving differences among enterpriseswithin developing clusters.

There is clearly more that can be examinedregarding the ability of developing countryclusters to support enterprise growth. Under-

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standing the potential for sustainabledevelopment requires examination of both theconsequences of changes within the clusterand the external conditions shaping the formthat cooperation takes. For example, thelinkage to external buyers may initiate a processof upgrading. If a condition of this upgradingis the loss of product design and independentmarketing, the long-term capacity for growthmay be weakened. Hence, a further importantmessage from the study of developing countryclusters is the need to study how externalopportunities shape local responses inclusters. In the interim, public agencies needto recognise, first, that the propensity forclustering does not mean that clusters warrantbeing a specific regulatory target or policy goaland, secondly, that the stylised model ofcluster development presents a misleadingimpression of the actual contribution of clustersto business upgrading.

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BUSINESS CLUSTERS IN THE SOUTH: A CRITICAL APPRAISAL FROM INDONESIAN EVIDENCE