Many firms in developing countries could be too small to adopt modern technology embodied in expensive production machines. This paper shows that rental market interactions allow these small firms to increase their effective scale and mechanize production. We conduct a survey of manufacturing firms in Uganda, which uncovers an active rental market for large machines between small firms in informal clusters. We then build an equilibrium model of firm behavior and estimate it with our data. We find that the rental market is quantitatively important for mechanization and productivity since it provides a workaround for other market imperfections that keep firms small. The rental market also shapes the effectiveness of development policies to foster mechanization, such as subsidies to purchase machines. Overall, our results point to the importance of taking into account firm‐to‐firm interactions within informal clusters to understand technology adoption in low income countries: focusing on the small scale of firms in isolation might be misleading.

Abstract We leverage the high degree of worker mobility across production lines in a large Indian manufacturer to estimate the sorting of workers to managers, using data on daily worker productivity. We find negative assortative matching (NAM): better workers tend to be matched with worse managers. Estimates of the production technology, however, reveal that productivity would increase by up to 4% under positive sorting. Exploiting a survey of managers and data on orders from multinational brands, we document that NAM arises, at least partly, because maintaining valuable relationships with buyers provides strong incentives to avoid delays on any given production line.