short notes on Scale, economies of scale, diseconomies of scale with the help of diagram

What is scale:-

• By scale of an enterprise or size of a plant we mean the amount of investment in fixed factors of production
• Costs of production are lower in larger plants than in smaller ones
• This is due to economies of large-scale production
• The term ‘economies’ refers to cost advantages
• When these economies are over-exploited the result may be cost disadvantages, i.e. diseconomies .
  
  

Economies of Scale:-

• A business firm expands its scale of production to earn profit.
• This expansion helps in lowering the cost of production & increasing the productive efficiency.
• Such economies that occur to a firm in the course of expansion of its scale of production by increasing all the factors is called Economies to Scale.
• Economies of scale are advantages that arise for a firm because of its larger size, or scale of operation. These advantages translate into lower unit costs (or improved productiveefficiency), although some economies of scale are not so easy to quantify.
• Economies of scale can be ‘internal’ (specific to an individual firm) or external (advantages that benefit the industry as a whole).

INTERNAL ECONOMIES:-

• Accrue to a firm largely because of its own efforts.
• It begins to make better use of such resources which were not being utilized properly before the expansion of the scale of production.
• When a firm increases its scale of production, the reduced costs or economies which this firm gets as a result are called internal economies.
• These are the result of increased division of labour or the use of improved production methods.
  
  

TYPES OF INTERNAL ECONOMIES:-

                       a. Technical Economies/ Specialization:-

• Specialization increases with size; so larger firms get more of the gains of specialization. Large-scale businesses can afford to invest in expensive and specialist machinery.Mass production allows the use of specialized equipment and automation to perform repetitive tasks. The larger the output of a product, plant, or firm, the greater will be the opportunities for specialization of capital equipment. Similarly, machinery and equipment cannot be used as efficiently when it has to be switched back and forth between tasks.

b. Labour Economies:-

• Increase in the scale of firm also enables it to take the advantage of labour economies.
• A larger firm employs a large number of laborers & give them the work they are most suitable for.
  
  

c. Bulk-buying economies:-

• As businesses grow they need to order larger quantities of production inputs. For example, they will order more raw materials. As the order value increases, a business obtains more bargaining power with suppliers. It may be able to obtain discounts and lower prices for the raw materials.

d. Financial economies:-

• A Larger firm is able to reduce its cost of borrowing from the market.
• A bigger firm is better known to the financial institutions & the stock market.
• The charges of selling or borrowing bonds & shares from the market are much less than those demanded from smaller firms.

e. Marketing economies:-

• As the scale of a firm increases, it obtains economies of Sale & Purchase.
• Since the firm purchases on large scale it gets all the inputs at a cheaper rate.
• Similarly, wholesalers charge less for the sale of the products of a large-sized firm.
  
  

f. Managerial economies:-

• As a firm grows, there is greater potential for managers to specialize in particular tasks (e.g. marketing, human resource management, finance). Specialist managers are likely to be more efficient as they possess a high level of expertise, experience and qualifications compared to one person in a smaller firm trying to perform all of these roles.

                      g. Risk-bearing Economies:-

• Every firm has to face some risk in order to continue production.
• The ability of a larger firm to bear risk is much better than a smaller firm because they are financially stronger.
• These risk-bearing economies are also called ‘SURVIVAL ECONOMIES’ because these help the bigger firm to survive the business crisis while the smaller firm fails.

External economies of scale:

• External economies include all those cost reducing benefits or facilities which accrue to a firm when the size of the industry in which the firm is working increases.

The main types of external economies are:-

1. Transport and communication links improve

As an industry establishes itself and grows in a particular region, it is likely that the government will provide better transport and communication links to improve accessibility to the region. This will lower transport costs for firms in the area as journey times are reduced and also attract more potential customers. For example, an area of Scotland known as Silicon Glen has attracted many high-tech firms and as a result improved air and road links have been built in the region.

2. Training and education becomes more focused on the industry

Universities and colleges will offer more courses suitable for a career in the industry which has become dominant in a region or nationally. For example, there are many more IT courses at being offered at colleges as the whole IT industry in the UK has developed recently. This means firms can benefit from having a larger pool of appropriately skilled workers to recruit from.

3. Other industries grow to support this industry

A network of suppliers or support industries may grow in size and/or locate close to the main industry. This means a firm has a greater chance of finding a high quality yet affordable supplier close to their site.

Diseconomies of scale:-

• When a firm grows beyond the scale of production that minimizes long-run average cost(Long-run average cost (LAC) is total cost divided by the quantity of output when the firm can choose a production facility of any size.), diseconomies of scale may result. When diseconomies of scale occur the firm sees an increase in marginal cost when output is increased.

• Diseconomies of scale may arise for two reasons:
  • Coordination problems
  • Increasing input costs.
    
    

Types of diseconomies are:-

Lack of motivation – in larger firms, workers can feel that they are not appreciated or valued as individuals - see Mayo and Herzberg. It can be more difficult for managers in larger firms to develop the right kind of relationship with workers. If motivation falls, productivity may fall leading to inefficiencies.

Poor communication – it can be easier for smaller firms to communicate with all staff in a personal way. In larger firms, there is likely to be greater use written of notes rather than by explaining personally. Messages can remain unread or misunderstood and staff are not properly informed.

Co-ordination – a very large business takes a lot of organising, leading to an increase in meetings and planning to ensure that all staff know what they are supposed to be doing. New layers of management may be required, adding to costs and creating further links in the chain of communication.