Extending Shift-Share Decomposition through Cluster Analysis: an Application to New Firm Formation in British Counties

Firm formation has been advocated by policy-makers and examined by researchers as a vehicle for job creation and economic development. Both industrial structures and the firm formation rates of individual industries vary regionally. For instance, Ashcroft et al (1991) showed that firm formation rates vary significantly between U.K. counties. While shift-share analysis has been used as a decomposition technique (Dunn, 1960) to account for these differences, a shortcoming is that the regional shift is affected by the level of regional employment in a given industry. Also, firm formation rates in each industry are likely to be partly determined by the industrial structure of a region. This paper extends the shift-share methodology developed by Johnson (1983) to incorporate a cluster analysis of the industrial structure of regional employment in order to further separate regional and sectoral components of firm formation in British counties in the1980s and 1990s. Firm formation is measured using VAT registration rates.