Economies of Scale vs Diseconomies of Scale
Economies of scale and diseconomies of scale are concepts that go hand in hand. They both refer to changes in the cost of output as a result of the changes in the levels of output. The two concepts are essential to the study of economics, and are very useful to corporations to monitor the point at which increases in production can result in higher per unit costs. The following article provides a good explanation of what each term means, shows how they are related to one another and highlights their differences.
What is Economies of Scale?
Economies of scale is a concept that is widely used in the study of economics and explains the reductions in cost that a firm experiences as the scale of operations increase. A company would have achieved economies of scale when the cost per unit reduces as a result of an expansion in the firm’s operations. Cost of production entails two types of costs; fixed costs and variable costs. Fixed costs remain the same, regardless of the number of units produced such as the cost of property or equipment. Variable costs are costs that change with the number of units produced, such as the cost of raw material and labor cost, given that salaries are paid at a per hour or per unit basis. The total cost of a product is made up of fixed and variable costs. A firm will achieve economies of scale when the total cost per unit reduces as more units are produced. This is because even though the variable cost increases with each unit produced, the fixed cost per unit will reduce as the fixed costs are now divided among a larger number of total products.
What is Diseconomies of Scale?
Diseconomies of scale refers to a point at which the company no longer enjoys economies of scale, at which the cost per unit rises as more units are produced. Diseconomies of scale can result from a number of inefficiencies that can diminish the benefits earned from economies of scale. For example, a firm produces shoes in a large manufacturing facility 2 hours away from its shop outlets. The company currently has economies of scale because it currently produces 1000 units a week that only requires 2 truck load trips to transport the goods to the shop. However, when the firm starts to produce 1500 units per week, 3 truckload trips are required to transport the shoes, and this additional truckload cost is higher than the economies of scale the firm has when producing 1500 units. In this case, the firm should stick to producing 1000 units, or find a way to reduce its transport costs.
Economies of Scale vs Diseconomies of Scale
Economies of scale and diseconomies of scale are related concepts and are the exact opposites of one another. Economies of scale arise when the cost per unit reduces as more units are produced, and diseconomies of scale arise, when the cost per unit increases as more units are produced. A firm constantly aims to obtain economies of scale, and must find the production level at which economies of scale turns to diseconomies of scale.
Summary:
• Economies of scale and diseconomies of scale are concepts that go hand in hand. They both refer to changes in the cost of output as a result of the changes in the levels of output.
• A company would have achieved economies of scale when the cost per unit reduces as a result of an expansion in the firm’s operations.
• Diseconomies of scale refers to a point at which the company no longer enjoys economies of scale, at which the cost per unit rises as more units are produced.