subject: Differentiate between external and internal economies and diseconomies of scale [print this page] Differentiate between external and internal economies and diseconomies of scale
Internal and External Economies Of scale:
When an increase in the scale of production results in a more than proportionate increase in output the firm is said to be experiencing economies of scale.
There are two types of Economies of scale
Internal Economies of scale
External Economies of scale
Internal Economies of scale are those which arise from the growth of the firm independently of what is happening to the other firms. They simply arise from an increase in the scale of production in the firm itself. A firm may grow as a result of increasing the number of workplaces it has or increase the size of its plants.
External Economies of scale are those advantages in the form of lower average costs which a firm gains from the growth of the industry. These economies are available to all the firms in the industry independently of change in the scales of their individual output.
Internal economies of scale can be divided into technical economies, marketing economies, financial economies, research and development economies, managerial economies and risk bearing economies.
External Economies of scale are especially significant when industries are heavily localized in industrial clusters. Example of economies of scale includes labor, ancillary services, disintegration, cooperation, commercial facilities and specialized market.
Internal and External Diseconomies Of scale:
When an increase in the scale of production results in a less than proportionate increase in output the firm is said to be experiencing diseconomies of scale
There are also two types of diseconomies of scale
Internal Diseconomies of scale
External Diseconomies of scale
Internal diseconomies of scale occur when the firm grows beyond its optimum size, efficiency declines and average cost begin to rise. The main problems which arise when a firm grows too large are thought to be mainly attributable to management difficulties. As the size of the firm increases, management becomes more and more complex. It becomes increasingly difficult to carry out the management function of coordination, control, communication and to maintain good industrial relations.
External diseconomies of scale are when a firm experience disadvantage as a result of the industry to which it belongs becoming too large. For example shortage of labor with the appropriate skills, increasing demand for raw material may also bid up the prices and cause cost to rise; land for expansion will become increasingly scare and hence more expensive both to purchase and to rent. Transport cost may also rise because of increased congestion. All firms in the industry whether they are seeking to expand or not, may suffer rising cost as a result of the industry getting large too quickly.
