Question

In the wake of the energy crisis in California, many electricity generating facilities across the nation are reassessing their projections of future demand

and capacity for electricity in their respective markets. As a manager at Florida Power & Light Company, you are in charge of determining the optimal size of two electricity generating facilities. The accompanying figure on the previous page illustrates the short-run average total cost curves associated with different facility sizes. Demand projections indicate that 6 million kilowatts must be produced at your South Florida facility, and 2 million kilowatts must be produced at your facility in the Panhandle. Determine the optimal facility size (S, M, or L) for these two regions, and indicate whether there will be economies of scale, diseconomies of scale, or constant returns to scale if the facilities are built optimally.

Short answer

As a result, facility " $\mathrm{M}$" will operate in the scale economies range, whereas facility " $\mathrm{L}$" will operate in the scale diseconomies area.

Step-by-step solution

Explaining the graph

• Because 6 million kilowatts must be produced at the South Florida project, the recommended facility size is $\mathrm{L}$. While the appropriate facility size for the Panhandle is M, because the Panhandle facility must produce 2 million kilowatts. Because both regions have the lowest average total cost, the best facility for South Florida is $\mathrm{L}$ while the best facility for the Panhandle is M.

Determining the economies of scale.

• There is an economy of scale in the Panhandle complex somewhat under 3 million kilowatts per hour if the facilities are built properly, but the facility will operate under diseconomies of scale after that.
• On the other hand, the South Florida facility has an economy of scale of slightly less than 4 million kilowatts per hour, but it will operate under diseconomies of scale after that.