L4- Economies and Diseconomies of scale

Question 1

what are constant returns to scale

Answer 1

• firm doubles all its inputs- output doubles
• output increases in the same proportion as all inputs

Question 2

what are increasing returns to scale

Answer 2

• input doubles, output more than doubles
• output increases more than in proportion to the increase in all inputs

Question 3

what are decreasing returns to scale

Answer 3

• input doubles,output less than doubles
• output increases less than in proportion to the increase in all inputs

Question 4

difference between diminishing returns and decreasing returns to scale

Answer 4

• diminishing returns= only short term- what happens to output when variable input is added to fixed input
• decreasing returns to scale= only long run- what happens to output when all inputs are variable

Question 5

explain long run average cost curve in relation to short run total cost curves

Answer 5

• in short run, possible to produce at the lowest possible cost on SRATC1 until point a, where SRATC1 meets SRATC2- beyond this, firm should consider increasing capital and moving onto SRATC2 to minimise average costs as output increase

Question 6

types of economies of scale

Answer 6

• technological eos
• managerial eos
• marketing eos
• financial eos
• purchasing eos
• risk- bearing eos

Question 7

explain technological eos

Answer 7

• storage capacity of an object increases proportionately more than its surface area= larger the storage container, lower AC of storage= benefit of operating on large scale
• some capital is designed for large scale production and would only be viable for a firm operating at a high volume of production e.g. combine harvester
• high overhead expenditures in many economic activities= do not vary with scale of production- larger scale of production= more efficient e.g. factory, R+D
• some industries with this cost structure- railway networks, electricity supply= larger firm always produces at lower average cost than smaller firms= competitive advantage could lead to monopoly

Question 8

explain managerial eos

Answer 8

• large firms able to employ specialist managers= gain expertise + experience in that area= better decision-making abilities
• no. of managers in firm doesn’t depend on production scale= reduces management cost per unit
• BUT organisation gets so large, management finds it more difficult to manage= diseconomies of scale

Question 9

explain marketing eos

Answer 9

• advertising usually fixed cost- spread over more for larger firms= cost per unit is lower
• cost of advertising several products may be lower than advertising one
• large firms= brand awareness= trusted by consumers= not as much advertising needed

Question 10

explain financial eos

Answer 10

• large firm- strong reputation= raise finance for expansion easier than smaller- reinforces market position of largest firms in sector, makes it harder for newcomers to be established

Question 11

explain purchasing eos

Answer 11

• large scale firm= purchasing inputs in bulk= negotiate deals with supplier= reduces average cost as output increases
• supplier may even move closer to factory, reduces costs even more

Question 12

explain risk-bearing eos

Answer 12

• large firms diversify into diff. product areas and diff. markets= predictable overall demand= able to take more risks e.g launching product that may/may not be popular= if unsuccessful, large firms other activities allow it to absorb cost of failure more easily

Question 13

explain risk-bearing eos

Answer 13

• large firms diversify into diff. product areas and diff. markets= predictable overall demand= able to take more risks e.g launching product that may/may not be popular= if unsuccessful, large firms other activities allow it to absorb cost of failure more easily

Question 14

what are diseconomies of scale

Answer 14

• increases in average costs of production as firm increases output by increasing all its inputs- cost per unit of output increase
• decreasing returns to scale

Question 15

reasons for diseconomies of scale

Answer 15

• coordination and monitoring difficulties= growth= management runs into difficulties of coordination and monitoring= growing inefficiencies = average costs increase as firm expands
  -communication difficulties= difficulty communicating between various component parts of the firm= inefficiencies= higher average costs
• poor worker motivation= boredom, lack of care= inefficiencies= costs per unit of output rise