Economics
Diseconomies of Scale
Diseconomies of scale refer to the situation where the long-run average costs of production increase as a firm expands its output beyond a certain point. This can occur due to inefficiencies in coordination, communication, and management as the organization grows larger. It is the opposite of economies of scale, where average costs decrease as output increases.
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10 Key excerpts on "Diseconomies of Scale"
eBook - ePubMicroeconomics
A Global Text
- Judy Whitehead(Author)
- 2014(Publication Date)
- Routledge(Publisher)
As a corollary, it also suggests, however, that once a producer can attain the minimum optimum scale, producers operating at much larger scales would have little if any cost advantage. The signal to producers fearing competition in a newly opened market, for example, is to seek to identify the minimum optimal scale for their industry and attempt to reach this level of output in order to meet any competitive challenges. This assumes that the firms are all using the same technology (managerial, production, etc.) meaning that they are essentially using the same production function.6.4 Economies of Scale
The concept of economies of scale is a long-run phenomenon. These economies of scale are internal to the firm and may arise from increasing the number of plants (plant replication) as well as from increasing plant size. They may also derive from expanding the plant with the same product or by diversifying into other products. Diseconomies of Scale must be considered as well.Internal economies and Diseconomies of Scale should be distinguished from external economies and diseconomies. Whereas internal economies determine the shape of the long-run average cost curve, external economies cause shifts in the position of the long-run average cost curve. External economies and diseconomies are exogenous factors generally outside of the producer’s control, such as the cost of inputs.Economies and Diseconomies of Scale should also be distinguished from economies and diseconomies of scope although there are some interrelationships. Typically, economies of scale are considered to be related to the supply or production side while economies of scope are related to the demand or marketing side and particularly to the bundling of goods for sale. However, in some cases, the promotional or marketing activities are included in the consideration of economies of scale in production. These can be seen as part of the administrative or managerial techniques which are part of the production function.
eBook - PDF- Kumar, K Nirmal Ravi(Authors)
- 2021(Publication Date)
- Daya Publishing House(Publisher)
6 Economies and Diseconomies of Scale In the earlier discussion (Chapter 5), we studied that, increasing and diminishing RTS in a long run production programme are influenced by economies of scale and Diseconomies of Scale respectively. Further, we also discussed that, the behaviour of cost curves in the long run are influenced by both economies of scale and Diseconomies of Scale. So, it is high time now, to discuss these aspects of economies of scale and Diseconomies of Scale, as they give the true picture regarding the production behaviour of the firm or an industry as a whole. 6.1. Economies of Scale We know, a farm-firm is an independently administered business unit (say, cattle farm) by the farmer, while an industry is made up of a number of firms producing broadly similar items or items that are connected to each other (dairy industry). Depending upon the level of output, firms and industries may be of small-scale or large-scale. As every firm or industry aims to maximize the output, they expand the business, thereby, reap profits and during this process, they are able to secure certain benefits that are not available to small firms or industries. These benefits or advantages are referred to as economies of large scale and they result in reduction of LRATC of production due to expanding the output in the production programme. So, an economies of scale refers to, when a larger output is associated with lower per unit cost of production (i.e., low average cost of production) in a production process. Thus, economies of scale are the cost advantages exploited by expanding the scale of production by the firm in the long run. It is, otherwise, defined as the efficiency gained in a production process due to increase in the rate of production. It can also be defined as a state, when the number of goods or services produced goes up by a sizeable margin, but that This ebook is exclusively for this university only. Cannot be resold/distributed.
eBook - PDFMicroeconomics
A Global Text
- Judy Whitehead(Author)
- 2020(Publication Date)
- Routledge(Publisher)
Producers who are limited either by the size of their market or by the availability of funds and can only reach, say, level Q 1 , will find that they remain uncompetitive on price with other larger producers who produce at or above the quantity Q * and are selling in the same market. As a corollary, it also suggests, however, that once a producer can attain the minimum optimum scale, producers operating at much larger scales would have little if any cost advantage. The signal to producers fearing competition in a newly opened market, for example, is to seek to identify the minimum optimal scale for their industry and attempt to reach this level of output in order to meet any competitive challenges. This assumes that the firms are all using the same technology (managerial, production, etc.) meaning that they are essentially using the same production function. 6.4 ECONOMIES OF SCALE The concept of economies of scale is a long-run phenomenon. These economies of scale are internal to the firm and may arise from increasing the number of plants (plant replication) as well as from increasing plant size. They may also derive from expanding the plant with the same product or by diversifying into other products. Diseconomies of Scale must be considered as well. Internal economies and Diseconomies of Scale should be distinguished from external economies and diseconomies. Whereas internal economies determine the shape of the long-run average cost curve, external economies cause shifts in the position of the long-run average cost curve. External economies and diseconomies are exogenous factors generally outside of the producer’s control, such as the cost of inputs. Economies and Diseconomies of Scale should also be distinguished from economies and diseconomies of scope although there are some interrelationships.
No longer available |Learn more- (Author)
- 2014(Publication Date)
- Orange Apple(Publisher)
In this case, with perfect competition in the output market the long-run equilibrium will involve all firms operating at the minimum point of their long-run average cost curves (i.e., at the borderline between economies and Diseconomies of Scale). If, however, the firm is not a perfect competitor in the input markets, then the above conclusions are modified. For example, if there are increasing returns to scale in some range of output levels, but the firm is so big in one or more input markets that increasing its purchases of an input drives up the input's per-unit cost, then the firm could have Diseconomies of Scale in that range of output levels. Conversely, if the firm is able to get bulk discounts of an input, then it could have economies of scale in some range of output levels even if it has decreasing returns in production in that output range. Diseconomy of scale The rising part of the long-run average cost curve illustrates the effect of Diseconomies of Scale. Beyond Q 1 (efficient output), additional production will increase per-unit costs. Diseconomies of Scale are the forces that cause larger firms to produce goods and services at increased per-unit costs. They are less well known than what economists have long understood as economies of scale, the forces which enable larger firms to produce goods and services at reduced per-unit costs. Causes Some of the forces which cause a diseconomy of scale are listed below: ____________________ WORLD TECHNOLOGIES ____________________ Cost of communication Ideally, all employees of a firm would have one-on-one communication with each other so they know exactly what the other workers are doing. A firm with a single worker does not require any communication between employees. A firm with two workers requires one communication channel, directly between those two workers. A firm with three workers requires three communication channels (between employees A & B, B & C, and A & C).
eBook - PDF- Basil Blackwell, Samuel Eilon(Authors)
- 2013(Publication Date)
- Butterworth-Heinemann(Publisher)
Up to the optimal point the long-run average unit cost declines and production is said to display economies of scale, while beyond that point Diseconomies of Scale are manifest. Economies of scale result from a combination of many factors, chief amongst them being: spread of fixed costs over a larger volume output, greater labour productivity achieved in a larger plant through a greater degree of specialization, use of more special-purpose equipment coupled with more efficient and more productive use of the equipment, better organization and control of production and inventories, use of quantity discounts in bulk purchasing of materials and services, and better utiliz-ation of space and transport facilities. As for the phenomenon of Diseconomies of Scale, the usual argument is (Pappas and Brigham, 1979): At some output level economies of scale typically no longer hold, and average costs begin to rise. Increasing average costs at high output levels are often attributed to limitation in the ability of management to coordinate an organiz-ation after it reaches a very large size. This means both that staffs tend to grow more than proportionately with output, causing unit costs to rise, and that managements become less efficient as size increases, again raising the cost of producing a product... While the existence of such Diseconomies of Scale is disputed by some researchers, the evidence indicates that diseconomies may be significant in certain industries. For a multiplant firm, where the total cost is the sum of the costs of the individual plants, it is then suggested (Pappas and Brigham, 1979) that the Big is necessary 75 Volume Volume Volume 1 Constant costs 2 Declining costs 3 U-shaped cost curve Figure 4.5 Three possible long-term unit cost curves Source: Pappas and Brigham, 1979 resultant long-run unit cost may take one of the forms shov^n in Figure 4.5: 1 The costs decline and then remain constant and unaffected by changes in volume.
eBook - PDFManagerial Economics
Problem-Solving in a Digital World
- Nick Wilkinson(Author)
- 2022(Publication Date)
- Cambridge University Press(Publisher)
In addition, they have more sources of finance; they can tap the capital markets, for example, by issuing commercial paper, bonds and shares. These forms of raising finance often involve a lower cost of capital. Finally, a larger firm can enable its supplier of funds, normally a bank, to gain economies of scale of an administrative nature. Again, these economies are clearly monetary and at the level of the whole firm. The above economies of scale all represent cost advantages that larger firms can gain. There may be additional advantages in terms of the learning curve, described in a later section, and in terms of gaining monopoly power in the market. This last advantage is a demand rather than a cost advantage, and is discussed in Chapter 9. 7.3.3 Diseconomies of Scale These are aspects of increasing scale that lead to rising long-run unit costs. Again, they can be internal or external, physical or monetary, and can arise at the level of product, plant or firm. There are, again, four main sources of Diseconomies of Scale (DOS), although these do not correspond exactly to the four categories of EOS described above. (a) Technical diseconomies Increased specialization can lead to problems as well as benefits. Workers doing repetitive jobs can suffer from low motivation, reducing productivity and increasing the chance of industrial unrest. The number of days lost through strikes tends to be higher in industries that feature such processes, such as car manufacturing, mining, engineering and transportation and communications. 17 Furthermore, a stoppage in such industries, whether caused by industrial unrest or by some other event such as a machine breakdown, can cause the whole production process to come to a halt because of the interdependence of operations. 7.3 Long-Run Cost Behaviour 343 (b) Managerial diseconomies Large firms are more difficult to manage because communications tend to break down, both vertically and horizontally.
eBook - PDF- David Besanko, David Dranove, Mark Shanley, Scott Schaefer(Authors)
- 2014(Publication Date)
- Wiley(Publisher)
Table 2.2 provides a comprehensive listing of sources of scale economies as well as sources of Diseconomies of Scale. Firms that believe they may enjoy econo-mies of scale should carefully consider this list of sources and determine which, if any, apply. In the Appendix, we describe a number of techniques for quantifying the mag-nitude of scale economies. The Learning Curve • 77 T HE L EARNING C URVE Medical students are encouraged to learn by the axiom “See one, do one, teach one.” This axiom grossly understates the importance of experience in producing skilled physicians—one surgery is not enough! Experience is an important determinant of ability in many professions, and it is just as important for firms. The importance of experience is conveyed by the idea of the learning curve. The Concept of the Learning Curve Economies of scale refer to the advantages that flow from producing a larger output at a given point in time. The learning curve (or experience curve) refers to advantages that flow from accumulating experience and know-how. It is easy to find examples of learning. A manufacturer can learn the appropriate tolerances for producing a system component. A retailer can learn about its customers’ tastes. An accounting firm can learn the idiosyncrasies of its clients’ inventory management. The benefits of learning manifest themselves in lower costs, higher quality, and more effective pricing and marketing. T ABLE 2.2 Sources of Scale Economies and Diseconomies Sources of Economies Comment Product-specific fixed costs These costs include specialized tools and dies, training, and setup costs; they are usually associated with capital-intensive production. Trade-offs among alternative production technologies Larger plants may have lower average costs, provided they operate near capacity. Cube-square rule This rule applies whenever output is proportional to the volume of the production vessel but costs are proportional to the surface area of the vessel.
eBook - PDFSurfing the Global Tide
Automotive Giants and How to Survive Them
- M. Wynn-Williams(Author)
- 2009(Publication Date)
- Palgrave Macmillan(Publisher)
If the technical economies of scale are very large they become a dom- inant feature of the firm and give the impression that this is the source of the firm’s competitive advantage. However, this may mask a lack of econ- omies of scale elsewhere, even diseconomies, particularly in a multiplant firm where a complex bureaucracy may result in Diseconomies of Scale in management. 25 Fundamentals of scale A role for economies of scope and integration Economies of scope are often cited as an additional advantage, usually exploited by large firms that have a wide range of capabilities and resources to draw on. These economies of scope are available when the production system is established and a more intensive approach is made to its usage. In order to exploit the opportunity the minimized costs of production for two goods would have to be less when the system is shared than if the goods were produced separately (Panzar and Willig 1981). Typical exam- ples include the production of mutton and wool, or a delivery person who also reports on neighborhood crime. The essence of economies of scope is that it accesses additional capacity derived from an existing production system with the result that total output is improved. However, the actual advantage can be difficult to quantify and may in fact represent increased use of existing spare capacity, rather than the opportunity to exploit additional capacity. Since it is derived from an existing production system it is also likely to have only a marginal impact on raising total production levels. For example, there are no economies of scope in a food delivery firm diversifying into mail delivery since it is only possible to do this if the company is failing to entirely fill its vehicles with food deliveries in the first place. For the increase in scope to bring economies there must be spare capacity available which cannot be used for the existing product.
- Dudley Jackson(Author)
- 2018(Publication Date)
- Routledge(Publisher)
7.2 The taxonomy of economies of scale The taxonomy of economies of scale and related concepts is quite complex. Figure 7.1 shows the scheme of classification proposed for this book. Very broadly, we are concerned with the relationship between volume of production per period and the cost of producing that volume of production, where this 171 172 Profitability, M echanization and Econom ies o f Scale Figure 7.1 Classification scheme for economies of scale and related concepts Econom ies o f Scale in Theory 173 volume-cost relationship is such as to increase the efficiency rate of profit as the volume of production increases between establishments each specifically designed and equipped for its volume of production per period. Generally we will be concerned with a production period of one year. There are four possible types of comparison involved in this volume-cost relationship and each leads to a different understanding of an increasing efficiency rate of profit as the volume of production increases. Each type of comparison needs to be understood although this book is concerned only with comparisons of the first type. It is important to understand that the comparison must always be in terms of a comparison between two or more distinct establishments or plants. To illustrate, except for the case of economies of scope (which will be briefly discussed) the comparison which we must always keep in mind is a comparison between Plant 1 and Plant 2, each producing the same type of product, Product H (and only that type of product), where Plant 1 is designed and equipped from the outset to produce quantity of output X per annum and Plant 2 is designed and equipped from the outset to produce quantity of output (X+ Y) per annum. Each of Plant 1 and Plant 2 must be on the production frontier (otherwise we will not be comparing like with like).
- Arne Hallam(Author)
- 2019(Publication Date)
- CRC Press(Publisher)
The next section of the chapter addresses the definition of economies of size and the relationship between economies of size, scale, and scope. Particular attention is devoted to the multiproduct firm and issues relating to firm homogeneity in empirical work. Extensions to the basic static concepts are also discussed. A short section on the market implications of size economies is followed by a discussion of alternative ways to measure economies of size, scale, and scope using a variety of methods and data sources. The conclusion outlines areas of clear direction, areas of continued debate, and guidelines for future research. Economies of Size: Some Tentative Definitions Single Product Firms Under Certainty Before defining economies of size, it is useful to define the related concept of returns to scale. Assume the production function is given by (1) where y is output and x is the vector of inputs xt···n· Let f have the usual neoclassical properties of quasiconcavity, strict positive monotonicity, and twice continuous differentiability in x. Then the function is said to exhibit nonincreasing returns to scale if for all x £ R~ ~1, and O 0 153 f(fb) • 9f(x) This global definition of returns to scale is often supplemented by a local one that has a specific numerical magnitude. The elasticity of scale (Ferguson 1981) is implicitly defined by ain /(b) £ ·-p...,-atn X (2) This simply explains how output changes as inputs are changed in fixed proportions (along a ray through the origin). Intuitively, this measures how changes in inputs are scaled into output changes.
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