LS4 - Economies Of Scale

Question 1

What happens to inputs in the long run?

Answer 1

In the long run, all inputs are variable.

Question 2

What are the three types of returns to scale?

Answer 2

Constant returns to scale, increasing returns to scale, and decreasing returns to scale.

Question 3

What is meant by constant returns to scale?

Answer 3

Output increases in the same proportion as all inputs. For example, if inputs increases by 200%, output also increases by 200%.

Question 4

What is increasing returns to scale?

Answer 4

Output increases more than in proportion to the increase in all inputs. For example, if inputs double, output more than doubles

Question 5

What is decreasing returns to scale?

Answer 5

Output increases less than in proportion to the increase in all inputs. For example, if inputs double, output increases by less than double.

Question 6

Why is it important not to confuse decreasing returns to scale with diminishing returns?

Answer 6

Diminishing returns occur only in the short run with one variable input and fixed inputs, while decreasing returns to scale occur in the long run when all inputs are variable.

Question 7

What is the firm’s long-run in terms of planning?

Answer 7

The long run is the firm’s planning horizon where it can change all inputs to select the optimal scale of operation for cost minimization.
If a firm wants to expand production, it must think in terms of increasing its fixed inputs, otherwise its production will run into diminishing returns.

Question 8

How do short-run average cost curves (SRATC) relate to long-run average cost curves (LRATC)?

Answer 8

The LRATC curve is tangent to each SRATC curve, representing the lowest possible cost for each level of output when all inputs are variable.

Question 9

see fig B on onenote and read thorugh the farmer example to bettr unerstand how LRATC and SRATC interact

Question 10

Why does the LRATC curve have a U-shape?

Answer 10

The U-shape of the LRATC curve is due to economies and diseconomies of scale (related to increasing and decreasing returns to scale), NOT diminishing returns.

Question 11

What are economies of scale?

Answer 11

Economies of scale are decreases in average costs (cost per unit of output) as a firm increases its output by increasing all inputs.
(over the long-run)

Question 12

How do increasing returns to scale relate to economies of scale?

Answer 12

Increasing returns to scale lead to economies of scale because output increases more than inputs, reducing average costs.

Question 13

What are diseconomies of scale?

Answer 13

Diseconomies of scale are increases in average costs as a firm increases its output by increasing all inputs.

Question 14

How do decreasing returns to scale relate to diseconomies of scale?

Answer 14

Decreasing returns to scale lead to diseconomies of scale because output increases less than inputs, increasing average costs.

Question 15

What can cause diseconomies of scale?

Answer 15

Co-ordination and monitoring difficulties, communication difficulties, and poor worker motivation can cause diseconomies of scale.

Question 16

What shape does the long-run average cost (LRAC) curve typically have?

Answer 16

The LRAC curve typically has a U-shape.

Question 17

What does the U-shape of the LRAC curve reflect?

Answer 17

The U-shape reflects economies and diseconomies of scale, not diminishing returns.

Question 18

What portion of the LRAC curve do economies of scale explain?

Answer 18

Economies of scale explain the downward-sloping portion of the LRAC curve.

Question 19

How do increasing returns to scale relate to economies of scale?

Answer 19

Increasing returns to scale lead to economies of scale, causing average costs to fall as output increases.

Question 20

: What are technical economies of scale?

Answer 20

Technical economies of scale arise from the efficiency of large-scale production technologies and physical properties, like storage capacity.

Question 21

Provide an example of technical economies of scale.

Answer 21

A large ship can transport proportionally more than a small ship, reducing the average cost of transportation.

Question 22

what are some other reasons to operate on a large scale?

Answer 22

Some capital equiptment can only produce in a large scale, this is an indivisibility in the production process

High overhead expenditures: some costs do not vary directly with the scale of production. Expenditure on research and development could be seen as such an overhead, which may be viable only when a firm reaches a certain size.

Question 23

What are managerial economies of scale?

Answer 23

Managerial economies of scale occur when large firms are able to employ specialist managers, improving efficiency and decision-making through their experience and expertise

Question 24

What is a potential downside of managerial economies of scale?

Answer 24

At some point, a large and complex organization may experience diseconomies of scale due to management difficulties.

Question 25

What are marketing economies of scale?

Answer 25

Marketing economies of scale occur when advertising (usually fixed) costs are spread over a larger output, reducing the cost per unit.

Question 26

How can brand awareness contribute to marketing economies of scale?

Answer 26

Larger firms with well-known brands may need to spend less on advertising to achieve sales because consumption of their other products creates trust

Question 27

What are financial economies of scale?

Answer 27

Financial economies of scale are advantages large firms have in raising finance on favorable terms due to their strong reputation.

Question 28

What are purchasing economies of scale?

Answer 28

Purchasing economies of scale occur when large firms buy inputs in bulk, obtaining discounts and reducing average costs.
sometimes suppliers will relocate near the factory which further reduces costs.

Question 29

What are risk-bearing economies of scale?

Answer 29

Risk-bearing economies of scale allow large firms to diversify into different products and markets. this means a more predictable overall ddemand, ability to take more risks as other sales can absorb the cost of failure more easily

Question 30

What portion of the LRAC curve do diseconomies of scale explain?

Answer 30

Diseconomies of scale explain the upward-sloping portion of the LRAC curve.

Question 31

How do decreasing returns to scale relate to diseconomies of scale?

Answer 31

Decreasing returns to scale lead to diseconomies of scale, causing average costs to rise as output increases.

Question 32

How do coordination and monitoring difficulties contribute to diseconomies of scale?

Answer 32

They cause inefficiencies and higher average costs as the firm grows larger.

Question 33

How do communication difficulties contribute to diseconomies of scale?

Answer 33

They lead to inefficiencies and increased average costs due to challenges in communication within a large firm.

Question 34

How can poor worker motivation lead to diseconomies of scale?

Answer 34

Workers become less efficient because they lose motivation or feel bored, increasing costs per unit of output.