This paper argues that modularity of knowledge and technologies has important implications for the locus of inventive activities. This is because modularity allows for a separation of the innovation process in two main activities: The production of basic (standardised) modules, and their combination to produce variants of technologies or product designs that are better suited to the special needs of individual users or markets. This gives rise to a division of labour whereby the production of modules will be performed by specialised upstream suppliers (who enjoy economies of scale), while the combination of modules will be performed by firms further downstream or by the users themselves. We then suggest that this pattern can explain a variety of phenomena such as why users "co-produce" their innovations, and how small regions can support innovative activity despite the apparent efficiency advantage of larger regions. © 1997 Kluwer Academic Publishers.