Diamond was born in New York on April 29, 1940 to Jewish immigrants - his mother's family had arrived in America from Poland, his father's family moving from Russia and Romania. Always a good student, Diamond earned his bachelor's degree summa cum laude in mathematics from Yale University and in 1963 he completed his Ph.D. at M.I.T. After graduation, Diamond worked for a short while as an assistant professor at the University of California, Berkeley before returning to M.I.T. as an associate professor in 1966. In 1985 he was promoted to serve as the universities head of the Department of Economics and in 1997 he became an Institute Professor.
In October, 2010, Diamond was awarded the Nobel Prize in Economic Sciences, along with Dale T. Mortensen from Northwestern University and Christopher A. Pissarides from the London School of Economics "for their analysis of markets with search frictions".
The Nobel Prize Press Release summarized their work as follows:
The trio's models of markets help us understand the ways in which unemployment, job vacancies, and wages are affected by regulation and economic policy. This may refer to benefit levels in unemployment insurance or rules in regard to hiring and firing. One conclusion is that more generous unemployment benefits give rise to higher unemployment and longer search times.
Search theory has been applied to many other areas in addition to the labor market. This includes, in particular, the housing market. The number of homes for sale varies over time, as does the time it takes for a house to find a buyer and the parties to agree on the price. Search theory has also been used to study questions related to monetary theory, public economics, financial economics, regional economics, and family economics.
In April, 2010, Diamond was one of three individuals nominated by President Barack Obama as one of three nominees to fill the three vacancies then present on the Federal Reserve Board, though the Senate effectively rejected his nomination in August of that same year. He would nominated for the spot two more times but eventually withdrew his own nomination citing personal problems with the entire nomination process and "partisan polarization" in Washington.