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ECONOMIES OF SCALE (EOS)
This refers to the fall in average cost of production or unit cost of production when output of afirm increases
. In other words, they are the advantages of growing ‘big’. The costs per unit
usually decrease because the total costs of the business are spread over a larger amount of output.Economies of scale can be of 2 types:(i)
Internal EOS (Occurs when the firm [individual business] grows in size)(ii)
External EOS (Occurs when the industry [collection of firms] grows in size)
TYPES OF INTERNAL ECONOMIES OF SCALEMarketing EOS
Average costs may be lowered when businesses increase sales because of large scale production.Advertising and any other costs associated with marketing may be lower per unit because thesecosts are spread over a larger amount of output. It will be the same case for transportation wherelarge businesses can transport more goods at a time causing the transportation cost per unit to belower as compared to small businesses.
Bulk buying EOS / Commercial EOS / Purchasing EOS
As a firm grows in size, more raw materials will be needed for mass production. Hence, bulk buying will take place. As such, discounts are negotiated and this helps the business to decreasethe costs of its inputs (raw materials). This will help businesses to benefit from lower averagecosts per unit.
Large scale production allows a more efficient use of machinery and equipment. The latter willnot be idle and mass production will allow the average cost of production to fall. Modern and upto date machinery might also be purchased for large scale production and this will allow rapidand more effective production.
Larger firms have more power to influence financial institutions. They can negotiate for lowerrate of interest and borrow massive sums of money. This is because financial institutions seethem as being less risky than smaller firms. Large firms are trusted to be able to pay back themoney without major difficulties. Smaller firms have problems to get loans from the banksbecause of the risk factor. They are also not allowed for lower rate of interest.