What is economies of scale and diseconomies of scale

Economies of scale happens when a business grow large enough to enable them to lower average cost, while diseconomies of scale happens when a business grows too large, resulting in inefficiency.

There are five (5) types of economies of scale are;

1. Purchasing economies

2. Marketing economies

3. Risk bearing economies

4. Technical economies

5. Financial economies

Two (2) types of diseconomies of scale;

1. Management diseconomies

2. Labour diseconomies

Purchasing economies

Purchasing economies happens when a business is able to take advantage of a lower price by negotiating with the suppliers, because they purchase in large amounts or bulk.

Marketing economies

Marketing economies happens when a firm is able to promote or distribute multiple products in large amounts at a time. This saves the firm on promotion cost as a single advertisement campaign could include all or multiple products.

Risk bearing economies

With multiple different products, a business could reduce risk of loss from falling demand of one of its product.

Technical economies

Large firms can afford to finance costly research and development to develop new technologies that could improve production methods, improve quality, efficiency and reduce cost. Some of these innovations could also be patented to give the firm a competitive advantage.

Financial economies

Banks are more likely to approve loans to large and established businesses as they have operated for many years with profits, as such are unlikely to be unable to repay their loans.

Management diseconomies

Communication problems happen when there are too many departments to communicate with. This usually happens in a large organization and may slow decision-making. This would increase cost as time is wasted awaiting decision to be made.

Labour diseconomies

Labour diseconomies happen when employees get bored with repetitive task as their work become specialized. Employees end up getting demotivated, losing focus on their task resulting in errors and waste.

RELATED CONCEPTS

1. Efficiency

2. Cost

PAST YEAR QUESTIONS

1. Identify two economies of scale (2 marks) Feb/Mar 2019/12

2. What is meant by ‘economies of scale’? (2 marks) May/June 2019/13

3. Identify and explain two diseconomies of scale that a firm might experience. (6 marks) Oct/Nov 2019/12

4. State two economies of scale. (2 marks) May/June 2020/11