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The Development Of It Cluster In India Economics Essay

Since the liberalisation of the Indian economy in the early 90s, there has been a high level of foreign direct investment. Although the large domestic market was an attraction, what propelled the rising foreign interest is the growth performance of the Indian economy (Balatchandirane, 2007). In the late 90s, offshore outsourcing of service has drawn attention as an economic driver that has foster the growth of emerging economies such as India, Philippines as well as Uruguay (Kenney, 2003; Ramamurti, 2004). India found an opportunity in the information technological (IT) revolution and unlike other developing countries, India is demonstrating a high degree of competitiveness and innovation in knowledge intensive software development and IT enabled service which has resulted to rapid growth in the IT industry and has become a major player in the development of the economy. The development of IT industry in India cannot be discuss without prior knowledge of the development of IT cluster which exist in India. Bangalore the undisputed IT capital of India (Hindu, 28 Feb. 2002) has been the major driving source of the growth for the IT Industry in India and the economy at large. Although other IT clusters exist, Bangalore is referred to the “Silicon Valley of Asia” due to the concentration of computer related enterprises in the city and their success. This success of can be attributed to the factors responsible for the formation of the IT clusters and the continuous support of institutions such as government in the development of the cluster.

Although previous researches have been conducted in this area, many of them focuses on the factors responsible for the competitiveness and success of the Bangalore IT cluster. The objective of this research is to critically analyze the formation and development of the Bangalore IT cluster and how its growth has had a positive significant impact in the growth of the Indian economy. Answers will be provided to questions such as; is Bangalore IT cluster human made, catalyzed or natural phenomena? The uniqueness of Bangalore IT cluster that made it more successful than other IT clusters in India will be revealed.


The role of geography for economic development and firm performance has been studied at least since the late 19th century (Marshall, 1890). In recent years there has been a resurgence of the study of local clusters and their relevance for the competitive advantage of firms (Tallman, Jenkins, Henry and Pinch, 2004; Bell 2005). This view emphasizes proximity and local social networks as an important conduit for flows of (tacit) knowledge (Audretsch, 1998), resource mobilization (Stuart and Sorenson, 2003) and support institutions (Kenney and Patton, 2005) conferring competitive advantage to firms in clusters (Porter, 1990; Folta, Cooper and Baik, 2006). Cluster-based firms are shown to maintain a high pace of innovation compared to firms outside clusters (Baptista and Swann, 1998), reinforced by high levels of employee mobility which accelerate tacit knowledge flows (Saxenian, 1994).


Cluster may be defined as a local agglomeration of enterprises producing and selling related and complementary products. However, cluster does not consist only of group of industries sharing the same geographical location rather it success and dynamism depends on the relationships and linkages which gets established as they interact, compete, co-operate and learn from each other over time (UNIDO, 2001).



This stage of cluster development is characterized by slow growth and high cost. In this stage, only a few firms establish themselves and based on their success, other firm may follow in the next stage of development. The formation at this stage may be natural due to private initiatives and high demand potentials or may be induced based on policy (incentives, infrastructure availability or high public buying sector unit). Examples of such clusters include automobile component industry at Gurgaon. In the case of traditional clusters, the formation of clusters may be due to the availability of raw material resources or specific skills (Examples include ‘Marble Cutting cluster at Kishangarh in Rajasthan).


This is the second stage of cluster development and it is characterized by rapid growth, supportive institution intervention such as government, raw materials and service provider consolidation. Competition increases as new firms enter the market. This leads to technological development and expansion into new market. As the cluster’s national and international market increases, innovation in the sphere of marketing and management causes overall decline in prices. It is possible for a cluster that is not currently at the growth stage to reach that stage later since industries goes through their circle of recession and growth.


This is the third phase of cluster development. At this stage, the cluster is characterized by fierce competition and over capacity thus resulting to slowing down of growth within the cluster. Innovation is a predominant feature of this stage. Strong input of research and development is required in other to position the firm ahead of its competitor, reduced cost and add new feature to products. Although several researches have shown how mature cluster regenerates themselves back to growth stage due to choice made by local actors and groups, it has been found that this stage last longer that the initial and growth stages.


In this forth stage of cluster development, a cluster may go into extinction due to the low or no demand of its product or due to high technological change, which it can no longer cope with. More also, a cluster may experience this stage due to destruction of competition within the cluster as a result of increase in cost of labor. However, unfavourable condition of a location may prompt the movement of a cluster to a more favourable location in other for it to survive and grow. This is evident in he case of shoddy yarn made from recycle wool that moved from Prato in Italy to Panipat in India as a result of the existence of skills, cheap labor and favourable market.

There may be exceptions in the development of stages of a cluster. The growth and maturity stages may become fused in that identifying a specific stage in a cluster becomes difficult. Also, due to internal or external change that may occur, transition from one stage to another may not be as smooth as projected.


From the above definition of a cluster, for the development and growth of a cluster, the relationships that exist within the cluster are as equally important as the geographical location of that cluster. Thus, a cluster can be categorized base on the relationship which exist within the cluster and such relationships are based on nature of production process, government policies which regulates the new entrants and medium and large firm competition, and the evolvement of these relationship over time. Base on these, a cluster may be classified as:


In this type of cluster, different stages of production are confined to a unit so that a unit, which processes raw materials, also market the finished products themselves. This type of cluster can be found in Jalandhar (Sport goods), agriculture pumps cluster Coimbatore etc.


This is a cluster established around large units or few large units. Small and large firm relationship is organised in a way that small firms are either backwardly or forwardly linked with large firms. Small firms acts as subcontractors to large firm thus, supplying the some of the critical raw materials to large firms. An example is the development of the cluster of ancillary unit.


This is the opposite of horizontal cluster. In this cluster, different units are responsible for the operations required in producing finished products of which most of these units are Small Medium Enterprises (SMEs) with a high degree of inter-dependency amongst each other.

It is necessary to state that a mixed may emerge in several clusters. In a case where most (more than half) SMEs are large unit based, we may refer that cluster as large unit based.


Bangalore has emerged as one of the largest and fastest growing software clusters outside the US (Nadvi, 1995; Parthasarathy, 2004a). Notably, It is not only a hub for software- related industries but also houses several high-tech clusters (e.g. defence, aeronautics) and is considered to be the scientific and engineering centre of India in terms of research and training and partly manufacturing (Chaminade and Vang, 2008). Bangalore has a population of about 5 million with a quarter of its population living in one of the 700 slums. Although there are other IT clusters in the country, Bangalore is often called the India IT capital with specialisation in software production and export. Other competitors of Bangalore include the capital of Andra Pradesh (Hyderabad, or Cyberabad, as the Chief Minister likes to call it) and the capital of Tamil Nadu (Madras or Chennai). Most firm has different units at different IT clusters in the country. For instance, Microsoft development center is located at Hyderabad while E4E (computer firm) has established a lab at Bangalore and Madras recently (Vijayabaskar and Krishnaswamy, 2004).

The Industrialisation and urbanisation of Bangalore has be state-led ever since the 20th century. At the initial stage of cluster development, Bangalore has immensely benefited from the state support in industrialization effort, which include the establishing of polytechnics, research centers (Indian Institute of Science) and a some state owned factors (Holmstrom 1998b, 170-171). Between the periods of 1950s – 1970s, public sector undertaking was setup in areas such as aerospace, electronics, machine tools and equipments and so on due to favorable and conducive environment in Bangalore. Bangalore was chosen as an alternative location due to shortage of skilled and rising cost of land price in Bombay where Indian IT industry had its origin. The clustering of electronics related industry made the city unique giving it a cosmopolitan character and culture. As a result, people from different part of India relocated to Bangalore. The favorable and conducive environment of Bangalore also caught the interest of most multinational corporation expatriate (As proposed by an interview) thus, paving the way for foreign direct investment (Vijayabaskar and Krishnaswamy, 2004).

Most Multinational Corporation took advantage of the cheap skilled labour workforce in the region with Texas Instrument (TI) having the first mover advantage with the intention of having a base in the Asia/Pacific region. TI chose India because of factors, which include strong educational system in theoretical science and engineering (NASSCOM 1995, p. 384), high level of literacy and skilled English speaking labor workforce. TI’s headquarter in Dallas, USA had a direct satellite link with the software development unit in India. This direct satellite link was open to be share with other enterprises and this pave way for other smaller domestic companies who took the opportunity in data entry and basic software programming for distant clients.

From 1989 onwards, many Multinational Enterprises began to setup wholly own subsidiaries in Bangalore and outsourcing was also on the increase. For instance, Hewlett-Packard established a fully owned subsidiary that was 100% export oriented. Since then, FDI has been on the increase and Bangalore has become home to a number of wholly owned subsidiaries and joint ventures (Balasubramanyam and Balasubramanyam 2000, 355).

A number of entrepreneurs sprang up as a result of the employment policy, which was geared towards reducing employment and support for public venture. Institutions such as the Indian Institute of Science (IISs), Central Machine Tools Institute (CMTI) and National Aeronautical Laboratory produced engineer-entrepreneurs (Holmstrom 1998b; Heitzman 1999). The relocation of entrepreneurs from among the NRI community to Bangalore was also facilitated by the new liberal policy. According to Vijayabaskar and Krishnaswamy, 2004, p. 6, “Kumar points out that though at around 20 per cent, Bangalore has the second largest number of firms in India, this is a bit misleading as many firms headquartered in other cities have their production work undertaken in Bangalore (2001, 4287). Patibandla and Petersen state, “Most of the TNCs and leading Indian firms development centers are concentrated in Bangalore. In Bangalore alone there are approximately 140 TNC development centers. There are approximately 750 large and small domestic IT firms. About 40% of India’s total exports of $ 8.3 billion in 2001 come from Bangalore. There are about 60,000 IT professionals employed in Bangalore (2001, 23).”

Fig 1: Historical Evolution of Indian IT Industry. Source. Adapted from Taeube .F and Sonderegger .P, 2009


Ramachrandran and Ray, 2005, state, “Bangalore has been identified as an ideal place to live with abundance of rich social infrastructure. This includes moderate climate, housing, parks and educational facilities. Over a period of time, the social infrastructure got strengthened further with all modern day attractions around.”

The “Silicon Valley of Asia” (Bangalore) has grown from 13 firms in 1991-1992 to about 1,200 software firms engaging in different area of computer technology ranging from computer chip design, communication software and computer application software with over 100,000 IT professionals (Ramachrandran and Ray, 2005). Bangalore compared with other clusters in India has a higher degree of concentrated IT industry with over 200 multinational firms in operation. According to Ramachrandran and Ray (2005), “It is ranked fourth as a global hub of technological innovation, behind San Francisco and Austin of US, and the Taiwanese capital Taipei”.

According to Didar Singh A., (2005), “Bangalore story has been unique and special. It worked and aped its Californian model. In doing so it reverse-engineered and innovated a fantastic success that many believe is just the tip of the iceberg. Its vision and phases are captured in Table 1:”

Table 1.

Source. Adapted from Didar Singh A., (2005)


Bangalore has emerged the dominant cluster in India due to several factors such as historical, economic, cultural, and political as well as climate and industrial infrastructure. As a result of high supply in economic and non-economic factors, Bangalore has become a preferred choice for business location (Ramachandran, 1986).

Another important role in the development of any industry is the availability of highly skilled labor (Hanna, 1994; Porter, 1990). The availability of highly skilled talents have contributed immensely to the location specific advantage of Bangalore, which it owes to historical development of the city’s educational, research, software technological parks and industrial infrastructure (Ramachrandran and Ray, 2005).


Bangalore the capital of Karnataka has historically benefited from a positive attitude towards education and learning with the leaders encouraging the wide spread of education and the creation of military base in 1807 lead to the emergence of the city as an educational center. The establishment of the first English medium school in 1842, the first engineering college in 1917, the Indian Institute of Science (IIS – world class research institute) in 1911 by the Tata family, Indian Institute of Information Technology (IIT), Indian Institute of Management (IIM) etc., lead to the high literacy rate in Bangalore even in the 1950s. As at 1951, the literacy rate of Bangalore 43 percent, which was less than 17 percent of the national, figure and rose to 86 percent in 2001 while the national figure was just 55 percent (Balatchandirane, 2007).

Although the educational institutions provides engineers and managers to the firm in Bangalore IT cluster, firms still invest heavily on training, professional development programs, technique and method, process and people management initiative as software creation demands an awareness and knowledge of latest development in the field. For instance, Info Sys Company spend 5 percent of its revenue on R & D and has one of the largest training centers in the world located at Bangalore with the capacity of training 10,000 engineers a year. In 2001, 5 percent of its revenue was derived from training (Balatchandirane, 2007).

The Indian Institute of Management Bangalore interacts with the industry and runs programs that are specifically needed by the industry to ensure supply of skilled and professional labor. Although the IIS accepts donations from the industry, its operation remains distinct from the total influence of the industry (remains autonomous).


After independence, the national government of India began moving sensitive industries away from the border so that they don’t become easy target in times of war. This gave rise to a number of research institutes in Bangalore such as the Indian Space Research Organization (ISRO) – military related research and production outfit. As a result, a number of universities and other educational institution like Hindustan Machine Tools (HMT), Bharat Electricals Limited (BEL), Bharat Heavy Electricals Limited (BHEL), Hindustan Aeronautical Limited (HAL), and Indian Telecom Industries (ITI) were established. A number of electronics firms were also established to offer inputs to the research institutions and the industries in general. The initial phases of software development was characterized as being more hardware centric, and hardware firms tended to establish shop in the vicinity of software firms in Bangalore (Balatchandirane, 2007). The government has invested a considerable amount of resources in Bangalore towards developing its scientific talents and infrastructures thus making this area have a culture of high-level science and technology and high density of PhDs per kilometer compared to other cities in the country (Balatchandirane, 2007).


The government of India is well known for its continuous influence in the development of Indian IT industry even before the liberalization process in 1991. Before the liberalization of the economy, government strict regulatory policies have also neglected this sector thus the IT industry flourished, as this sector was not interfered with. Government interference in the software industry dates back to 1972 when a software export scheme was launched. In other to locally promote and protect this sector, a law insisting on local ownership of software firms was passed. Some multinational firms accepted by reducing their equity to 40 percent (ICL) while IBM chose to leave. As a result, Indian firm began to spring up mastering and creating software using UNIX (non-IBM software) to fill in the vacuum to meet demands.

Fig 2: Dynamic of cluster formation.

Source. Adapted from Ramachrandran and Ray (2005)

The emphasis on computer ad software education and training began as early as in 1970s and these institution imported computer hardware at a lower import duties rate.

There was a tight foreign exchange situation in the early 1980s(stringent rules), which made it difficult to get the requisite amount of foreign exchange that was needed for import of technologies and machineries. To remedy the situation, the software policy press notes which was issues on 1st January 1981, made it possible for firm who could guarantee its ability to export twice the amount of dollars worth of product in the next five years to get the amount of dollar requested released to them. This enabled a number of firms to import computer hardware. In the same year, the first Software Export Processing Zone was inaugurated in Bangalore and this policy acted as a driving force to the growth of the industry (Balatchandirane, 2007).

Although many cities in India give financial support and other incentives in other to attract high tech industries of which Bangalore is not an exception, one of the main location specific advantages of Bangalore is the history of proactive planning and policy-making. Bangalore Municipality was established in 1862, and the city has a long history of urban planning (Heitzman, 1999). In 1949, the Bangalore City Corporation (BCC) was established and became Bangalore Development Authority in 1976. In other to plan for metropolitan region, which includes Bangalore urban district, Bangalore rural district and taluka in Korla district, Bangalore Metropolitan Region Development Authority (BMRDA) was created in 1985.

The local government has played active role in the development of the IT industry in Bangalore by formulating positive economic policies and engages in public-private partnerships for infrastructural development (Van Dijk, 2003).

According to Van Dijk (2003), support for IT clusters in India ranging from national, state, local and enterprise policy initiatives is outline in Table 1 with little evidence found in the last type of initiative. From researches conducted, public-private partnership is not yet wide spread in India (public support listed below could lead to public-private partnership which is something uncommon in the case of Silicon Valley – Castells and Hall, 1994), while climatologically and quality of life is seen as the most important factor for locating in Bangalore.

Table 2.

IT Cluster Promotion Activities, Partially Through Public-Private Co-operation

Policy-related incentives


Targeted Education and Training

Marketing Support – Cluster Marketing through advertising, and so on

Industrial Policies – Dispersal

Prices and Subsidies


Electricity and Water Supply

Enterprise Buildings

Innovation Promotion

Involving Research Centers

Stimulating Incubator Centers

Promoting Linkages with Training and R&D Institutions*

Physical Support


Secondary (electronic) Infrastructure

Stimulating Co-operation

Group Formation of Enterprises and Consultation of these Groups

Promotion of Inter-Firm Relations*

Other Initiatives and Factors

Source: Van Dijk (2003)


The entry of Texas Instrument in Bangalore in 1984 paved the way for other multinational such as IBM, Hewlett Packard, and Digital Equipment and by 2001 there was a cumulative investment of US 1.3 billion in Bangalore. By 2001-2002, there were about 112 FDI ventures in India of which Bangalore accounted for 40 percent of the FDI due to its favored location. Taeube 2002, states “the emergence of entrepreneurial and managerial Brahmins who are better suited to the knowledge intensive industries like that of software and IT enabled services is an important socio-cultural and ethnic factor explaining the formation of this industry in India and particularly in Bangalore.” Firms also obtained support from the educational institution such as Institute of Science in Bangalore, which gave Wipro technology for computer manufacturing and made Bangalore its home.

The activities of some of these multinational- outsourcing gave birth to a number of Small Medium Enterprises (SMEs) in the IT industry. Also the US economic recession lead to the cutting down of production cost of which Bangalore became a target location due to its pool of low cost skilled labor. The time zone is also a major factor as firms in India could continue to work on a project after the closing time of companies in US due to the difference in hours leading to a 24hours base production.


The millennium bug problem played a major role in the development of Bangalore IT cluster and the India IT cluster in general. Indian firms took the opportunity presented by the Y2K problem to show the world their ability to deliver goods in high tech areas. Indian firm began solving the Y2K problem in the 90s and as a result, this did not only generate lot of revenue but also showed to the world the capabilities of Indian IT engineers and proof that they can deliver thus, gained confidence from their outside customers.


It is estimated that the Indian Diaspora is about 20million in general and around 1.7 million lives in US, 1.2million in the UK, 850, 000 in Canada and 200,000 in Australia. The majority of the Indian Diaspora in US are mainly professionals with high level income of US$60,093 per annum as compared to US$ 38,885 national average and are also highly educated with 62 percent college graduates as compared to 20 percent US population. Indian Americans who works in Silicon Valley is estimated to be around 300, 000 with an annual income of US$200, 000 and they managed 9 percent of all the new start up in late 1990s while in early 2000, one third of all the companies in Silicon Valley were managed by Indians. This played a major role in the development of IT industry in India as a number of them headed operation of MNEs in India. This aided the rapid dissemination and diffusion of knowledge, ideas and information about jobs, cutting edge software and a lot more through their network in US coalesced with the IT engineers in Bangalore (Ramachrandran and Ray, 2005).


India firms have proofed their capabilities in the production of world-class high tech. Out of 300 leading IT firms with ISO 900 certificate (International benchmark of excellence for software development), more than 170 are based in India. Also over 50 firms worldwide have SEI-CMM level 5 status (IT benchmark developed by Carnegie Mellon in US) and about 40 percent are India firms with half of them based in Bangalore (Ramachrandran and Ray, 2005).


The most notable competitors to Bangalore IT cluster in India include Hyderabad and Kolkata amongst others. The beginning of Hyderabad can be traced back to the establishment of Software Technologically Park of India (STPI) in 1991-92 and has experience a rapid growth since then harboring 1154 firms with software exports of Rs. 51 billion in 2001-23 (NASSCOM 2005). The role of government in the development of Hyderabad cannot be over emphasized. The AP government attracted a number of MNEs and encouraged Indian firms by providing better infrastructures, hidden subsidies, concessions and local demand through the state government e-governance project (Ramachrandran and Ray, 2005).

On the other hand, Kolkata, the capital of West Bengal ruled by communist government for about three decades began to house software firms in the mid 1980s. Unlike other IT clusters, IT firms in Kolkata did not receive government support in the early years. Although in 1992 – 93 after the economic liberalization, Software Technological Park of Kolkata (STPK) was established, government did not pay attention to it until several years later. Due to lack of government support and favorable operation conditions, Kolkata IT industry in the 90s experience a very slow growth with only 39 registered units and 30 operating firms and Rs. 2 billion exports in 1999 (Ramachrandran and Ray, 2005). In recent years, there has been a notable improvement and growth in the Kolkata IT industry emerging as one of the most important IT cluster in India with over 400 registered units and 215 operating firms employing more than 25,000 professionals and exports of Rs. 22 billion in 2004 (Ramachrandran and Ray, 2003).

However, Bangalore IT cluster has remained the dominant cluster in India and well recognized in the world with the largest FDI and software export. Although Bangalore owes its success to a number of early factor advantages, other factors discussed in the previous sector can also be seen as major player in Bangalore’s dominance.


The growth potentials of India economy have attracted several academic researches and writings in recent time. Most popular is the BRICs report (BRIC – four economies of Brazil, Russia, India and China) which reported that the combined economies of the BRIC countries was estimated to be 15% of the combined G6 economies (US, Japan, UK, France, Germany and Italy) in 2003 and is predicted to reach 50% by 2025. More also, it is predicted that in less than another two decades, the BRICs economies will overtake the G6 in US dollar term (Balatchandirane, 2007).

India as compared with other BRIC countries has the most consistent economic growth potential which is expected to increase above 5% continuously until 2050 and could overtake Japan by becoming the third largest economies by 2032 (The World Bank has predicted 2025).

Until 1991, the state controlled the economic development of India and was based on import substitution. The Hindu rate growth of 1 percent from 1960 -1980, led by the socialist model increased by 3% from 1980-1990. The liberalization and deregulation of the India economy in 1991 was driven by the economy crisis and has led to an increase of annual per capital GDP growth rate of 5% on the average (Ahuja M, et al, 2008). Since 1997, the average GPD growth rate of India has increased above 7% thus making India one of the fast growing economy in the world (WDI, 2008).

Fig 3. India’s GDP per capita. Source. Adapted from Ahuja M, et al, 2008.

Notably, over the past 20 years, India source of wealth has tremendously increased as a result of the growth in the service sector with the IT sector playing a major role (Ahuja M, et al, 2008).

The IT industry has experience a phenomena high growth rate in recent past with over 50 percent annual rates in the 1990s. India harbors’ the most admired firms and has emerged a premier off shoring destination of IT related service with high export in this sector as compared to its competitors like China and Russia. This sector in 2004 – 2005 recorded production of US$28.2 billion. This rose to US$ 36 billion in 2005-06 as a result 28% growth with the service export (IT services) estimated to have increased by 32% accounting for two third of the above figure.

The IT industry has helped in reducing the unemployment level in India with the total direct employment estimated to have increased from 284, 000 to 1, 287, 000 in the year 2005-06. This sector has also accounted for the creation of 3 million additional jobs through indirect and induced employment (Balatchandirane, 2007).

7.1 Conclusion

Bangalore the state capital of Karnataka may not be the most important city in India rather it has become the most favored location for IT industry and the first technological center in India. Bangalore has contributed immensely to the economic growth of India through its software service export. It has continuously restructured the inner city and stimulates the development of expansive housing area to improve the quality of its urbanization. From the above, the role of e

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