Economies of scale refers to decreased per-unit costs as production increases. As a firm produces more, average costs fall due to efficiencies from mass production and distribution of initial capital costs. However, very large firms can experience diseconomies of scale from issues like poor communication and inefficient divisions of labor. While large firms benefit from economies of scale in industries with high capital costs, small businesses can still compete by focusing on niche markets or those requiring little capital. Moderation is often the best approach with economies of scale.

1. Economies of Scale
Is Bigger Really Better?

2. Economies of Scale
 Economies of scale refers to the phenomena of
decreased per unit cost as the number of units
of production increase.
 The initial investment in capital is diffused
through an increase in production, and the
marginal cost of producing a good or service
decreases when each additional unit of
production is added.
 Economies of scale means a reduction in the per
unit costs of a product as a firm's production
increases.

3. Where do Economies of Scale
Occur Most?
 Economies of scale tend to occur in industries with high
capital costs in which those costs can be distributed
across a large number of units of production (both in
absolute terms, and, especially, relative to the size of the
market).
 A common example is a factory:
 An investment in machinery is made, and one worker, or unit of
production, begins to work on the machine and produces a
certain number of goods. If another worker is added to the
machine he or she is able to produce an additional amount of
goods without adding significantly to the factory's cost of
operation. The amount of goods produced grows significantly
faster than the plant's cost of operation. Hence, the cost of
producing an additional good is less than the good before it, and
an economy of scale emerges.

4. Types of Economies of Scale
 Internal Economies of scale
 External Economies of scale

5. Internal Economies of Scale
 These are economies made within a firm as a result of mass
production. As the firm produces more and more goods, the
average cost begin to fall because of:
 Technical economies made in the actual production of the good. For
example, large firms can use expensive machinery, intensively.
 Managerial economies made in the administration of a large firm by
splitting up management jobs and employing specialist
accountants, salesmen, etc.
 Financial economies made by borrowing money at lower rates of
interest than smaller firms.
 Marketing economies made by spreading the high cost of advertising on
television and in national newspapers, across a large level of output.
 Commercial economies made when buying supplies in bulk and
therefore gaining a larger discount.
 Research and development economies made when developing new and
better products.

6. External Economies of Scale
 These are economies made outside the firm as a
result of its location, and occur when:
 A local skilled labour force is available.
 Specialist, and local back-up firms can supply parts or
services.
 An area has a good transportation network.
 An area has an excellent reputation for producing a
particular good. For example, Saskatchewan is known
for their wheat and grain production.

7. Is Bigger Really Better?
 As with all things, as industries get bigger
so does the infrastructure and the
problems associated with economies of
scale.
 There is a fine line between making
money and losing money.
 This can result in:
 Internal Diseconomies of Scale
 External Diseconomies of Scale

8. Internal Diseconomies of Scale
 These occur when the firm has become too large and
inefficient. As the firm increases production, eventually
average costs begin to rise because:
 The disadvantages of the division of labour take
effect- too many people doing different jobs add to
costs.
 Management becomes out of touch with the shop
floor and some machinery becomes over-manned-
costs increase.
 Decisions are not taken quickly and there is too much
form filling.
 Lack of communication in a large firm means that
management tasks sometimes get done twice.
 Poor labour relations may develop in large companies.

9. External Diseconomies of Scale
 These occur when too many firms have
located in one area. Unit costs begin to
rise because:
 Local labour becomes scarce and firms now
have to offer higher wages to attract new
workers.
 Land and factories become scarce and rents
begin to rise.
 Local roads become congested and so
transportation costs begin to rise.

10. How can Small Businesses
Compete?
 Small firms are able to compete with large
firms because:
 Some products cannot be mass produced, eg
contact lenses.
 Some products have only a limited
demand, eg horse shows.
 Some products require little capital, eg
window cleaning.
 Small and large firms both receive grants and
subsidies from the government.

11. Economies of Scale in Agriculture
 The exploitation of economies of scale helps explain why companies
grow large in some industries.
 Agriculture in Saskatchewan represented an excellent opportunity to
capture the benefits of economies of scale.
 Farmers found that by increasing the factors of production
(mechanization, larger farms, better seed, more fertilizer &
pesticides, better farming techniques etc.) their productivity
increased significantly.
 The productivity of Saskatchewan farms grew enormously and the
unit cost of food for the consumer fell sharply.
 The demand for food did not grow as fast as its production. People
would rather spend their extra money on other goods and services.
 As farms grew larger and more capital intensive (mechanized), the
number of farm workers declined sharply while the opportunities
and wages in the urban areas grew significantly.

12. Moderation may be the best Policy
 As with everything life moderation does
seem to be the rule of thumb.
 Economies of scale must be understood
and growth in some industries works fine
while in others it may be best to stay
small and find those niche markets.
 Examples:
 Organic Farming
 Unique production items: art

13. The End