Question

What are economies of scale and why are such economies available only in the long run?

(in about 600-800 words giving references)

Since economies of scale exist, why do long-run marginal costs increase, ultimately, as output increases?

(in about 600-800 words giving references)

Answer 1

What are economies of scale and why are such economies available only in the long run?

Economies of scale-

Economies of scale refers to the cost efficient method of production that helps the business reduce their per unit costs. It is achieved by increasing production so that per unit costs can be lowered by distributing total costs into larger number of products. Generally, economies of scale can be achieved by large scale organizations only. This is because the small scale organizations are incapable in producing large units of products. It can be a myth also but it is a fact that is generally acceptable.

It is considered to be an important measure for reducing costs in any business and to achieve advantages over the other firms operating in the market. As a customer, suppose you go to the market, you may be able to find a same product at low cost from a big retail-chain store and at high cost from a normal small scale retailer. Ever wondered why? Well, this is the reason. Economies of scale. Large firms are able to cut the per unit costs by having more units of the goods product while a small scale retailer couldn’t do that. It can be because of limitations of fund or human capital. Economies of scale are achieved because there’s a specialization labor present in large scale organizations. They are generally specialized in making of that product and thus are able to produce them in higher quantities in a limited time period. This helps in mergers of organizations also. When two companies’ producing the different products at high scale see each other having a greater share in market, they may wish to collaborate and have a higher market share together. Please note that they are not competitors. They would not suffer any loss with the merger and even if they don’t merge, they are not operating at the cost of each other. They are totally independent. But after the merger, they can be like a multi retail store type of organization which could sell different products. The competitors would never merge with each other.

There are two types of economies of scale-

1. Internal economies of scale
2. External economies of scale

Let’s see how they are different.

1. Internal economies of scale- Internal economies of scale happens when the organization cuts cost internally. Generally large scale organizations can achieve that by reducing costs and increasing production.
2. External economies of scale- it happens when the economies of scale are achieved by external factors and the internal costs of the company have no role in it. For example, when the there is a tax reduction or subsidies made available by the country’s government.

Economies of scale exist in long run only because it is not possible to have economies of scale in short run. The factors that lead to economies of scale cannot have their impact in the short run. Increasing production takes time and so does the human capital to get specialized.

Let us see a major problem that economies of scale inherit-

Sometimes, organizations runs after economies of scale for so long that after a particular point, the marginal costs starts to increase as the output increases. This is called diseconomies of scale.

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