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The Role of Location in Competition

a
Michael E. Porter
a
C. Roland Christensen Professor of Business Administration,
Graduate School of Business Administration , Harvard
University , Boston, MA, 02163, USA
Published online: 26 May 2011.

To cite this article: Michael E. Porter (1994) The Role of Location in Competition,
International Journal of the Economics of Business, 1:1, 35-40, DOI: 10.1080/758540496

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 Journal of the Economics of Business, Vol. 1, No. 1, 1994

The Role of Location in Competition

MICHAEL E. PORTER

In the study of competition, the role of location has been all but absent. Most
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research on industry structure, the sources of competitive advantage, and compet-

itive processes has been location-neutral. Treatments of location have largely
followed the tradition established in the theory of trade. Here, locational choices
and locational effects were based on an input cost minimization framework in
which the principal attributes of location were the cost of land, labor, capital,
energy, and the like. In this framework, locational choices were more of an
operational detail than strategic. Once a firm decided how it was going to
compete, cost minimizing locations for its various operations were then selected.
More recently, there have been persistent assertions that even this modest
influence of location is diminishing. As modern technologies of transportation and
communications proliferate and diffuse, and as artificial regulatory separations
between locations are reduced (for example, through reductions in trade barriers
or liberalization of financial markets), it has been widely recognized that the
connection between location and input cost minimization weakens. Companies
can access inputs via efficient, global markets, or locate discrete activities in
particular locations to access particular low cost inputs rather than entire busi-
nesses. Low costs of transportation and communication make this disaggregation
of the firm's value chain feasible.
Indeed, many observers go even further. In a world of global competition, it
is argued, location is no longer relevant. Geography and political boundaries have
been transcended. T h e firm, in particular, can shed its locational identity or
dependence entirely.
This line of reasoning about location, however, does not square with the
empirical evidence. There are striking and persistent differences in the economic
performance of nations, and of states and cities within nations. T h e national
origin of successful international competitors also indicates the importance of
location. We examined patterns of international competitive success in particular
industries and segments of industries, initially in ten leading trading nations and
subsequently in a number of others'. Across the hundreds of industries that were
examined, including services and newly emerging fields such as software, ad-
vanced materials, and biotechnology, the leading international competitors were
typically based in just a few and sometimes only one nation.

Michael E. Porter, C. Roland Christensen Professor of Business Administration, Graduate School of

Business Administration, Harvard University, Boston, M A 02163, USA.
 36 M . E. Porter

Another manifestation of the importance of location is the geographic concen-

tration of leading firms within nations, a phenomenon which was highlighted at
least as far back as Marshall (1890) but which pcrsists today. An interesting
example is the US. Despite free trade among states, a common language and laws,
and great similarities along many other dimensions, location within the U S seems
to play an important role in competitive advantage. Movies and television
production are concentrated in Hollywood; office furniture in western Michigan;
pharmaceuticals in Philadelphia/New Jersey; hosiery and home furnishings in
North Carolina, artificial hips and joints in Indiana-and there are numerous
other examples. These concentrations in particular fields can be found in every
advanced n a t i ~ n but
, ~ the U S case is particularly important because there would
seem to be no economically relevant borders within the US. Moreover, the U S
economy would seem to be a metaphor for what an integrated Europe or Asia
could ultimately become.
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Finally, the importance of location to competitive advantage is also manifested

in the location decisions of multinational corporations (MNCs). Accounts citing
widespread geographic dispersion of MNC activities are misleading, first because
of company diversification. Foreign activities span many entirely different
product areas, while the activities in a given business are far less dispersed. More
important, however, is to distinguish between the types of activities located in
different countries. International firms tend to concentrate their most sophisti-
cated activities in the home country, or if not there, in a single other country.
Hewlett-Packard's operations encompass over 16,000 product lines sold around
the world, for example, yet worldwide responsibility for each product line
(including core manufacturing, R & D, and strategic decision-making) is concen-
trated in one particular location. Moreover, MNCs relocate headquarters of
particular businesses from one nation to another, apparently with increasing
frequency.
T h e apparent paradox between the globalization of competition and a strong
national and even local role in competitive advantage can be resolved by taking a
fresh look at international (and, more generally, spatial) competition and the
sources of competitive advantage. For simplicity, we will talk in terms of
international competition, but the same issues apply to competition between
locations within a single nation.
T h e paradigm that governs international competition has shifted. T h e old
paradigm was based on static efficiency, and the firm with the lowest input costs
or the greatest economies of scale prevailed. Note that such static efficiencies were
the decisive benefit of agglomeration identified by Marshall (1890), Weber
(1929), Losch (1954), and others who have addressed the role of location in
competition. However, the globalization of competition and advancing technology
have gone far to neutralize these locational benefits. Firms can source factors such
as raw materials, capital, and even generic scientific knowledge in international
markets, and locate selective activities overseas to tap into low-cost inputs. Home
market volume is less important than the ability to penetrate global markets.
Advancing technology has given firms the ability to eliminatc, nullify, or circum-
vent weaknesses in local factors- Japanese firms, for example, offset or minimize
high energy costs with energy-savings technologies. New technology is also
diminishing economies of scale, and/or allowing them to be rapidly neutralized by
smaller but more innovative rivals.
 Role of Location in Competition 37

The basis of competitive advantage has shifted from static efficiencies to the
rate of dynamic improvement. I t is not the inputs or scale the firm possesses
today, but its ability to relentlessly innovate and upgrade its skill and technology
(largely intangible assets) in competing. In this form of competition, the role of
location changes profoundly. Firms operate globally to source inputs and access
markets. Competitive advantage, though, comes from the process of innovation
which is heavily localized at the firm's 'home base', or the location of its strategic
management team, core research activities, and critical mass of sophisticated
production, for a particular product line.
The capacity to innovate and upgrade draws heavily on the proximate envi-
ronment in which the firm's home base in a particular business resides. Our
research has begun to highlight those attributes of location that are the most
decisive, among them: the presence of a continually improving pool of skilled
employees, applied technology, tailored infrastructure, experienced sources of
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capital and other factor inputs that are specialized to a particular business; a core
of sophisticated and demanding customers for the product, whose needs antici-
pate these elsewhere; a critical mass of local suppliers of those specialized
components, machinery, and services that significantly influence product or
process improvement in the business, and the presence of other locally based
competitors to motivate progress. These attributes are interacting and are en-
hanced (or atrophy) in a mutually reinforcing, cumulative process in which
causality becomes difficult to di~entangle.~ One of the important manifestations of
these locational influences is the formation and sustained presence of entire
clusters of interconnected industries at particular locations, many of which are
competitive. Regional and national economies are heavily influenced by a rela-
tively small number of such "exporting" clusters, which drive the demand for
purely local i n d ~ s t r i e s . ~
These attributes of location bear not only on static efficiency, the focus of the
agglomeration and urbanization literatures, but more so on the capacity for
dynamic improvement. The presence of local suppliers is important not as much
for low-cost access to inputs or to drive pecuniary external economies (see
Scitovsky, 1963, and others) but to foster information exchange, working relation-
ships, and checks on opportunistic behavior that speed innovation. In a dynamic
theory, the use of proximate outside suppliers is often favored over statically
efficient vertical integration. Demand-side influences of location, ail but absent in
treatments of agglomeration economies except for occasional mentions of the size
of local demand, become crucial to the capacity to innovate. Relative comparisons
with local competitors bode large as corporate goals that motivate improvement in
a dynamic model, versus absolute standards such as cost minimization.
In a world of dynamic competition in which input costs are neutralized as a
competitive advantage and scale economies are continually vulnerable to new
ways of doing things, the flow of specialized information about technology, needs,
and rivals, the nature and effectiveness of relationships among local actors; and
the motivation driving these actors to progress are central. Proximity, in physical,
cultural, and contextual terms, of customers, core suppliers, rivals, and factor-
supplying institutions is valuable in a dynamic model of competition because of
its influence on the flow of information, the nature of interchange, and motiva-
t i ~ nT. h~e need to co-locate 'home-base' activities at a particular location becomes
apparent in order to facilitate cross-functional coordination and to integrate
 38 M . E. Porter

knowledge and inputs sourced globally, instcad of dispensing each individual

activity to the cost-minimizing location.
These attributes of location in a dynamic model of competition simultaneously
determine both trade and foreign direct investment. They bear not only on the
capacity to export but also on why a particular firm is able to create the intangible
assets in a particular business that have long been seen as thc underpinnings of
F D I . Yet our view of both trade and F D I must become more textured. Trade
must be seen as consisting of both factor-driven trade and home-base driven
trade, the latter typically in more advanccd products (or components) and
intangibles. FDI will occur to source factors or support access to foreign markets,
which in turn drives trade patterns in intermediate and final products. However,
F D I is not only home-base exploiting, but can be home-base seeking or home-
base shifting (see Wesson, 1993). Much FDI appears to be directed at either
accessing the innovation advantages of a particular country or region or re-locat-
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ing the homc base entirely (a MNC's home base for a particular business necd not
be in its country of ownership).
T h e new learning on location raises a rich array of questions for future
research. It suggests the need for a renaissance in the study of external economies.
It casts new light on the study of agglomeration economies, regional science, and
indeed of industrial and economic policy. Our research suggests, for csample, that
the relevant economic area is smaller than many nations, that relevant economic
areas can cross state and even national borders, and that the most decisive
economic policy influences are often at the state and local level. All this suggests
that economic geography must move from the periphery to the mainstream. At
the same time, research on trade and FDI must begin to address a dynamic world
and connect more closely to new work on company strategy. Most broadly,
however, the new learning on location raises the ante for a better understanding
of the dynamic processes of competition, and the information, institutional, and
other foundations of choice and motivation. We must begin to understand not
only the balancing mechanisms working towards an equilibrium but also the
cumulative processes of change. Our concern must broaden from optimization
within fixed constraints to encompass the process by which constraints, whether
they be the existing technology or the available factor pool, are altered.

Notes
1. See Porter (1990) and, for example, Crocombc er ul. ( 1991).
2. See, for example, thc literature on Italian industrial districts (e.g. Piorc and Sabel, 1983). See also
Enright (1993a, b).
3. There is a role for chance or historical accident. Contrary to much recent research, ho\vevcr>many
events that look accidental are endogenous, determined by the local environment. T r u e accidents,
in turn, do not translate into competitive outcomes independently of the diamond, as \vc term the
locational attributes. Indeed, inventors today, as has been truc for at least a century, arc prone to
relocate (or sell) their inventions to the nations (location) where it \?ill yield thc highest payoff.
4. T h e generalized aspects of urbanization seem far lcss important to competition than the cluster-
specific aspects. For example, our rescarch suggests that new business formation in a location
appears to emanate from within clusters or thc intcrsticcs hertvccn clusters.
5. T h e geographic distance defining proximity can var! for individual inputs.

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