Chapter 2: Problem 26
As a firm grows larger, (LO7) a) economics of scale set in, then diseconomies of scale b) diseconomies of scale set in, then economies of scale c) economies of scale and diseconomies of scale set in at the same time d) neither economies of scale nor diseconomies of scale set in
Short Answer
Expert verified
Option a) Economics of scale set in, then diseconomies of scale.
Step by step solution
01
Economies of Scale
Economies of scale occur when a firm's long-run average costs decrease as its output increases. This can be the result of various factors, such as specialization, bulk purchasing of inputs, and efficient use of resources.
02
Diseconomies of Scale
Diseconomies of scale occur when a firm's long-run average costs increase as its output increases. This can be the result of factors like increased complexity, bureaucracy, communication problems, and inefficiencies in resource allocation.
Now let's take a closer look at each option and discuss its validity:
03
Option a) Economics of scale set in, then diseconomies of scale
This is the most accurate representation of how a firm grows. As a firm expands, it initially experiences economies of scale, which help it achieve lower costs per unit of output. However, after reaching a certain size, the firm may start to face diseconomies of scale, leading to increased costs per unit of output.
04
Option b) Diseconomies of scale set in, then economies of scale
This option is not accurate because, in general, a firm would not experience increasing costs per unit of output first and then decreasing costs per unit of output as the output increases.
05
Option c) Economies of scale and diseconomies of scale set in at the same time
This option is not accurate as economies of scale and diseconomies of scale are opposite concepts. In most cases, a firm experiences one or the other, not both, at the same time. Initially, the firm experiences economies of scale as its size grows, helping it achieve lower costs per unit of output. And only after reaching a certain size, the firm may start experiencing diseconomies of scale, leading to increased costs per unit of output.
06
Option d) Neither economies of scale nor diseconomies of scale set in
This option is not accurate as it is rare for a firm not to experience any changes in long-run average costs as it grows. In most cases, a firm will face either economies of scale or diseconomies of scale or both as its output increases.
After evaluating all the options, the correct answer is:
07
Answer
Option a) Economics of scale set in, then diseconomies of scale
Unlock Step-by-Step Solutions & Ace Your Exams!
-
Full Textbook Solutions
Get detailed explanations and key concepts
-
Unlimited Al creation
Al flashcards, explanations, exams and more...
-
Ads-free access
To over 500 millions flashcards
-
Money-back guarantee
We refund you if you fail your exam.
Over 30 million students worldwide already upgrade their learning with Vaia!
Key Concepts
These are the key concepts you need to understand to accurately answer the question.
Diseconomies of Scale
As a company grows, it might initially benefit from economies of scale, where efficiency and cost savings are achieved. However, as it continues to expand past a certain point, diseconomies of scale can set in. Diseconomies of scale are the opposite of economies of scale. This occurs when long-run average costs begin to rise with an increase in output. Several factors contribute to this phenomenon:
- Increase in Complexity: As the organization grows, managing its operations becomes more complex and challenging.
- Bureaucracy: Larger firms often have a more extensive structure, leading to slower decision-making processes.
- Communication Problems: With more employees and layers in the hierarchy, effective communication might suffer.
- Inefficient Resource Allocation: Resources may not be optimally distributed, leading to wastage or inefficiencies.
Long-run Average Costs
The concept of long-run average costs is crucial when discussing firm growth and scalability. In the long run, all inputs of production can be varied, allowing firms to choose the most efficient scale of production.
Long-run average cost (LRAC) is the cost per unit of output incurred when all factors of production are variable. The LRAC curve is typically U-shaped:
- At first, the curve slopes downward as the firm experiences economies of scale. This means lower costs per unit as the firm expands its output.
- After reaching the lowest point, the LRAC curve begins to slope upward, indicating diseconomies of scale, where costs per unit start to rise.
Resource Allocation
Allocating resources effectively is a fundamental challenge for growing businesses. As firms expand, they must ensure that their inputs—labor, capital, and materials—are utilized efficiently. Poor resource allocation can lead to increased costs and decreased productivity.
- Optimal Usage of Resources: Key to keeping production costs low and maintaining quality output.
- Flexibility in Production Processes: Allows firms to adjust resource allocation as needed, responding to market changes.
- Investment in Technology: Can improve efficiency and reduce wastage, aiding better resource management.
Firm Growth
Growth is a primary objective for many businesses, but it comes with challenges and opportunities. As firms grow, they often benefit from economies of scale, which include reduced costs and enhanced competitive advantage.
However, growth must be managed strategically to avoid the pitfalls of diseconomies of scale. Here's how successful firms often tackle this:
- Strategic Planning: Set clear goals and growth strategies to guide expansion and ensure sustainable development.
- Scaling Processes Efficiently: Refine operations to handle larger outputs without a proportional increase in costs.
- Maintaining Culture and Communication: Foster a strong corporate culture to support teamwork and communication.