Yi Zhang, Yuefang Si, Hanyan Sun
ABSTRACT Although numerous studies have examined the role of industrial agglomeration in regional innovation, limited research has investigated the impact of industrial agglomeration on firms' innovation. Therefore, using a novel dataset that merges data from 2772 manufacturing firms in 2015 with 51 Shanghai industrial zones‐level data, this study investigates how two distinct types of industrial agglomeration influence firms' innovation performance from a non‐linear perspective. Our findings reveal a U‐shaped relationship between diversification agglomeration and firms' innovation performance: initially, its performance declines as the intensity of diversification agglomeration increases, but beyond a threshold, it rises with further intensification. In contrast, specialization agglomeration exhibits a consistently positive relationship with firms' innovation performance. Moreover, our results demonstrate that the critical role of specialization agglomeration for the innovation performance of firms in low‐ and medium technology industries, while highlighting that diversification agglomeration is more beneficial to enhance the innovation performance of firms in high‐technology industries. Based on these insights, this paper provides important policy implications for promoting the sustainable development of Chinese industrial zones.