Economies of Scale
IntermediateEconomies of scale are the cost advantages a business gains as it grows larger, because the average cost of producing each unit falls as output increases.
As a business produces more, it can often produce each unit more cheaply. Fixed costs, such as factories, equipment and management, are spread over more units. Larger businesses can also buy materials in bulk at lower prices, use more specialised equipment and staff, borrow more cheaply and spread marketing costs further.
For example, a company might spend an average of 10 per unit when making 1,000 units a month, but only 7 per unit when making 10,000 units, because its factory, equipment and staff are used more fully and suppliers offer volume discounts.
Economies of scale give larger firms a competitive advantage. They can charge lower prices or earn higher margins than smaller rivals. In some industries, such as car manufacturing, airlines and utilities, scale is so important that only a few large companies can compete effectively.
Economies of scale do not continue forever. Beyond a certain size, businesses can become harder to manage and coordinate, and average costs may start rising again. This is known as diseconomies of scale.
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