Economies of scale

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Definition

The term economies of scale could refer to either of four related phenomena:

  • The short-run marginal cost curve is downward-sloping, i.e., the short-run marginal cost goes down as the quantity produced increases.
  • The (short-run) average variable cost curve is downward-sloping, i.e., the average variable cost goes down as the quantity produced increases. This is equivalent to saying that the short-run marginal cost is less than the short-run average variable cost.
  • The long-run marginal cost curve is downward-sloping, i.e., the long-run marginal cost goes down as the quantity produced increases.
  • The (long-run) average total cost curve is downward-sloping, i.e., the long-run average total cost goes down as the quantity produced increases. This is equivalent to saying that the long-run marginal cost is less than the long-run average total cost.

Note that the key distinction between the short run and the long run here is that in the short run, the fixed costs cannot be altered, whereas in the long run, the fixed costs can be altered.

Economies of scale may be valid only over a certain range of quantities of production. In general, short-run economies of scale apply only up to a fairly limited quantity of production (termed the minimum efficient scale). Long-run economies of scale are more common, and industries where such economies of scale exist are termed decreasing cost industries.