The diamond model is an economical model developed by Michael Porter in his book The Competitive Advantage of Nations. He answers the question why a nation achieve international success in a particular industry and why some nations succeed and others fail in international competition in his book of “The Competitive Advantage of Nations”, which was published in 1990. Porter's theory of national competitive advantage is based upon an analysis of the characteristics of the national environment, which identifies four sets of variables, which influence firms' ability to establish and sustain competitive advantage within international markets. Porter points out that the competitiveness of national industries is determined by four sets of conditions: Factor Condition, Demand, Related and supporting industry and Firm strategy, Structure and Rivalry.
These four sources of competitive advantage can produce a fertile soil to build an internationally competitive industry in a country. In other words, some industries, in a
particular country, have strong diamonds, while others have weak ones. In addition to these four determinants of competitiveness, there are two indirect variables in the model:
(5) chance and (6) government (Porter, 1990). The Diamond Model is shown in the Figure 2-1. The six variables of the Diamond are explained here:
Factor conditions mean that a country has a kind of production factors, such as skilled labor, arable land, natural resources, capital, infrastructure etc. These factors are essential inputs to compete in particular industries. According the theory, nations are endowed with different factors, among them the most important factors are those created one rather than those of inherited. He recognizes 'hierarchies among factors' distinguishing between 'basic factors' (such as natural resources, climate, location, and demographics) and 'advanced factors' (such as communications infrastructure, sophisticated skills, and research facilities). Advanced factors are the most significant for competitive advantage and, unlike factors whose supply depends upon exogenous 'endowment', advanced factors are a product of investment by individuals, companies, and governments. The relationship between basic and advanced factors is complex. Basic factors can provide initial advantages which are subsequently extended and reinforced through more advanced factors, conversely, disadvantages in basic factors can create pressures to invest in advanced factors. Factors can be grouped into human resources (the quantity, skills, cost of labor, management and work ethic); physical resources (cost of land, water, mineral, electricity, and other physical traits); knowledge resources (universities, scientific and technical research institutes); capital resources (the amount and cost of capital available to finance industry); and infrastructure (transportation system, communication system), mail and parcel delivery, payments or funds transfer, health care, housing stock and cultural institution). Porter further describes that a nation’s location and geographic as well as cultural environment as a nation’s physical resources (Porter, 2000).
Figure 2-1 Porter’s “Diamond Model”
Demand conditions are the pressures based on buyers’ requirements about quality, price, and services in a particular industry. Firms are typically most sensitive to the needs of their closest customers, hence the characteristics of home demand are particularly important in shaping the differentiation attributes of domestically-made products and in creating pressures for innovation and quality. This will prepare the industry to compete internationally in future stages. According to Porter, three major characteristics, the mix of customers’ needs and wants, the demand size and the internalization of domestic demand, lead to the arising of competitive advantage. For instance, Japanese car buyers exert pressure on Japanese carmakers with regard to high quality standards forcing them to improve the quality of their products, processes, and practices, which in turn prepares the entire industry to compete internationally (Porter, 1998).
Related and supporting industries are the networks of suppliers and distributors that cooperate with the industry to support it in international competition. Porter points out that competitive advantage in some supplier industries confer potential advantages on a
nation’s firms in many other industries because it promotes innovation and internationalization in many related aspects. The tendency for the successful industries within each country to be grouped into 'clusters' of related and supporting industries. One such cluster is centered upon the German textiles and apparel sector which includes high-quality cotton, wool and synthetic fabrics, women's skirts, dyes, synthetic fibers, sewing machine needles, and a wide range of textile machinery. In the meanwhile, related industries are also extremely important because these industries have a close cooperation with each other, so it is possible for them to share information and opportunities thus to reinforce competitive advantage (Porter, 1990).
Firm strategy, structure, and rivalry capture the robustness of domestic competition. The characteristics of the business sectors include strategies, structures, goals, managerial practices, individual attitudes, and intensity of rivalry within the business sector. For example, the large number of small, family-owned companies in Italy has been conducive to the success of design-orientated, craft-based industries where entrepreneurial responsiveness and flexibility in adjusting to fashion changes are important sources of competitive advantage. Rivalry is critically important in pressuring firms to cut costs, improve quality, and innovate. Because competition between domestic firms is more emotive and personal, and because domestic rivals compete from a common national platform, their rivalry tends to be more intense than with foreign competitors. Hence, domestic rivalry is particularly effective in promoting the upgrading of competitive advantage. Whether an industry is highly competitive domestically will influence the increase in productivity needed to compete internationally.
These four sets of national influences on competitive advantage operate interdependently rather than individually. For the 'diamond' to positively impact competitive performance usually requires that all four sets of influences are present. The interaction gives rise to some complex dynamics. For example, upgrading of competitive advantage through investment in product innovation, sophisticated labor skills, and process improvements is encouraged by a high level of domestic rivalry, at the same time domestic rivalry is stimulated by the availability of factors of production which facilitate new entry, and by a domestic market which is large, growing, and discerning.
The Role of Chance is the likelihood that external events such as war and natural disaster can effect or benefit a country or industry, but these events are entirely out of the control of the government or managers within the industries. For instance, the heightened border security, resulting from September 11 terrorist attacks on the US undermined import traffic volumes from Mexico, which has had a large impact on Mexican exporters.
The Role of Government, all the policies and regulations made by policymakers at all levels of government (but particularly federal) can benefit or adversely affect the competency of a country and an industry. From an initial premise, that government's aim is to maximize the level and growth of the nation's living standard, Porter defines the primary policy goal as: to deploy the nation's resources (labor and capital) with high and rising levels of productivity. To achieve productivity growth, an economy must be continually upgrading. This requires relentless improvement and innovation in existing industries and the capacity to compete successfully in new industries (p. 617, Nation’s Competitive Advantage, 1990). The appropriate role for government is to contribute to the conditions, which are most conducive to the upgrading of competitive advantage working through each of the four corners of the national diamond and taking actions, which improve the interaction between these influences. Similarly, government encouragement of joint ventures with foreign firms will facilitate the transfer of technology.