What You Need to Know About “Economies of Scale”
Posted on November 28th, 2008
The cost advantage that a firm obtains due to expansion is called economies of scale. Any size firm expanding its scale of operation may utilize it. Purchasing, managerial, financial and marketing are the common ones.
Economies of scale play a role in a natural monopoly. A natural monopoly is defined as a firm which enjoys economies of scale for all reasonable firm sizes because it is always more efficient for one firm to expand than new firms to be established. It has no competition so it has significant market power. Industries characterized by natural monopoly have been regulated or publicly-owned.
The 2 typical ways to achieve economies of scale are: High fixed cost and constant marginal cost and low or no fixed cost and declining marginal cost.
Economies of scale also refers to the decreased per unit cost as output increases. To cite more clearly, suppose the initial investment of capital is diffused (spread) over an increasing number of units of output, and therefore, the marginal cost of producing a good or service decreases as production increases.
Buying bulk in the Philippines is much cheaper on a per-unit basis; hence there is economy to be gained on larger scale.
Economies of scale tend to occur in industries with higher capital costs. The exploitation of it helps to explain why companies grow larger in some industries. It also justifies for free trade policies since some economies of scale may require a larger market than a particular country.
Typically, economies of scale, because of fixed costs production, are initially increasing and as production volume increases there is an assumption of constant returns to scale.
Economies of scale is an element of “Entry Barriers†concept, a fact which should be taken under care while entering an industry. Cost leadership strategy is realized through it [economies of scale] production thinking.
