Economies of Scale

Economies of scale refer to the reductions in cost that firms achieve by producing in larger rather than smaller volumes of output. “Economies” in the context refers to the benefits incurred by reducing costs, largely by spreading fixed costs over a greater quantity of output.

Mass production occurs through the standardization of parts and a detailed division of labor. Specialized divisions of labor, however, require a relatively large scale of output because a large pool of workers is generally necessary. Scale economies operate when increases in factor inputs generate disproportionately larger increases in output or, in more technical terms, the production function in not linear. For example, if a firm increases its inputs of labor and capital by 20% but sees its output rise by 30%, ...