Economies and Diseconomies of

Scale
CLARITY
Unit Costs
The Diagram

Economies of scale: Diseconomies of Scale:

Unit costs fall Unit Costs increase

Optimum level
of output

OUTPUT
 What are Economies of Scale

unit costs involved in

• A fall in the

generating an output through growth

– Purchasing economies of scale
– Marketing economies of scale
– Technical economies of scale
– Financial economies of scale
– Risk bearing economies of scale
 Discussion
• How can an increase in size generate a drop in
costs?
 External economies of scale
• Economies of scale which benefit the INDUSTRY but
are not under the control of the FIRM
– External economies of scale arise from firms in related
industries operating in a concentrated geographical area;
• suppliers of services and raw materials to all these firms can
do so more efficiently.
• Infrastructure such as roads and sophisticated
telecommunications are easier to justify.
• There is also likely to be a growing local pool of skilled labour
as other local firms in the industry also train workers. This
gives a larger and more flexible labour market in the area.
 Diseconomies of Scale
• These are inefficiencies that can creep in when a firm operates on a
larger scale.The main diseconomies of scale 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.
 Discussion
• How is it possible for a firm to see an increase
in unit costs as a result of increasing size?
• At what point is the output level ‘best’?