The Porter Diamond
Summarized by Sam Mishra, MBA (MIT Sloan)
In his work on global markets, Porter developed a framework for explaining the location of various industries among nations, which he calls the the national diamond, reproduced below:
The different components of the above diamond are described below in some detail in the context of modern business strategy.
Factor ConditionsWhy are the hardware, software, and computer networking industries centered around Silicon Valley? What accounts for the national location of a particular global industry, such as seminconductors (Japan, United States) or outsourced high-tech manufacturing (China, Taiwan)? The answer is that there is a match between the factor endowments of the country and the needs of the industry.
Important factor endowments include capital, infrastructure, workforce skills and knowledge, human resources, geographical climate, etc. All the above factors are conducive for low-cost manufacturing in China and Taiwan. Consequently, manufacturing of Dell and HP and IBM desktops and laptops; and CISCO and Juniper computer networking routers is done in China and Taiwan. Increasingly, semiconductor and chip manufacturing is moving to China and Taiwan: Intel recently announced (2006) building a $500 billion chip manufacturing facility in China while laying off thousands of middle management in United States.
According to Porter, a product's fundamental or core design nearly always reflects home market needs. Nature and size of home demand determines the location of industries. As per Krugman, given sufficiently strong economies of scale, each producer wants to serve a geographically extensive market from a single location; to minimize transportation costs, she chooses a location with large local demand.
Price elasticity plays a role in conditioning demand for products. In particular, price inelasticity can help firms develop advanced technologies without cost considerations. For example, the recent 9/11 attacks on New York and the Pentagon have prompted the US Government to beef up security measures; consequently firms building security related hardware and software can build the most sophisticated products which the government will buy at prices fixed by these firms.
Firm Strategy, Structure, and Rivalry in the Home Industry
Why do Japanese firms lead world-wide automobile production and distribution? Why are Toyota and Honda perceived to be more reliable by American consumers compared to Ford and General Motors? As it happens, fierce domestic competition eventually helps firms compete better in the global marketplace.
In Japan, Toyota, Honda, Nissan, Mitsubishi, Suzuki, Mazda, and Subaru have to battle for market share. These seven companies compete fiercely in the home market, and the markets outside. Fierce domestic competition requires all these companies to have superior technologies, products, and management practices to survive. On the other hand, with the Daimler Chrysler merger, United States has only two auto firms left: Ford and General Motors. So, domestic competition is not as vigorous in US as in Japan. This, coupled with fierce domestic competition, has resulted in Japanese firms grabbing market share in US to survive.
Presence of Related and Supporting Industries
Geographic proximity eases coordination of technology and labor. In Silicon Valley, workforce is extremely mobile, and knowledge flows freely between competing firms. For example, Cisco routinely acquires start-ups founded by Juniper engineers; the strategy here is to weaken the competition. The same pehnomenon can be seen in the software industry: Oracle acquired Siebel and PeopleSoft, since all the three firms had related application software products.
Geographic proximity or clustering also results in reduction in transporation of intermediate goods; consequently electronics manufacturing has moved out of US and Japan to China and Taiwan. This has changed the world-wide dynamics of manufacturing and trade for ever.
ChanceWho comes up with a major new idea first is an instance of "chance." Entrepreneurs start companies in their home countries; this has nothing to do with economics at the beginning. However, once the industry begins in a given country, scale and clusterting effects set in to cement the industry's position in the given country. This ultimately influences the dominance of a particular country in a specific industry.
Governments control provision of roads and airports; gas and electricity, telecom infrastructure including cables and wireless; and education and healthcare. These in turn help or hinder industries dependent on these infrastructures and utilities for sustenance and growth.
Further, governments also create laws and regulations which affect the ability of firms to compete nationally and globally. Governments can provide subsidies to farmers as the US government does, or restrict foreign companies from doing business within their borders, as India did to Coca-Cola in the seventies. Government barriers in one industry can affect other industries as well. So, the role of government should be given due weightage while analysing global market dynamics.