Economies of scale refer to the benefits a business gains by increasing its production levels.
These benefits include technical, specialization, and purchasing economies.
Key Concepts
Technical Economies:
Larger firms can invest in bigger, cost-effective machinery and technology.
Sophisticated IT systems improve efficiency by processing data effectively.
Mass production and automation can enhance labor productivity.
Larger transport methods (e.g., lorries instead of vans) reduce distribution costs.
Specialization Economies:
As a firm grows, it can benefit from division of labor.
Workers can focus on specific tasks, gaining skills and speed, reducing labor costs per unit.
Example: A small retailer might handle multiple tasks, but with growth, they can hire specialists (e.g., accounts clerk).
Purchasing Economies:
Large firms buy raw materials in bulk, often receiving discounts.
Experienced managers of larger firms usually manage costs better.
Advantages of Economies of Scale
Lower Unit Costs:
Enables reduction in unit costs, allowing either reduced prices for customers or better profit margins for the business.
Barriers to Entry:
Large firms can deter new businesses from entering the market due to their scale and capital.
They can engage in price wars that smaller firms with higher costs and less capital are less likely to win.
Summary
Economies of scale provide cost advantages as businesses increase in size.
Examples include technical, specialization, and purchasing economies.
Advantages include lower unit costs and creating barriers to entry for new competitors.
Application Question
Consider how a company like A- Limited, growing in the dry dog food industry, might leverage technical, purchasing, and specialization economies of scale.