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Production Economics Notes

Short run production occurs when there are fixed costs, while long run production has no fixed costs. Diminishing marginal returns happen in the short run as more variable factors are added with fixed factors. Economies of scale occur in the long run as long run average cost decreases with expansion. Internal economies of scale examples for firms expanding include marketing, purchasing, financial, and managerial economies. External economies benefit an industry as it expands through lower recruitment costs, shared facilities, and lower transportation costs.

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74 views2 pages

Production Economics Notes

Short run production occurs when there are fixed costs, while long run production has no fixed costs. Diminishing marginal returns happen in the short run as more variable factors are added with fixed factors. Economies of scale occur in the long run as long run average cost decreases with expansion. Internal economies of scale examples for firms expanding include marketing, purchasing, financial, and managerial economies. External economies benefit an industry as it expands through lower recruitment costs, shared facilities, and lower transportation costs.

Uploaded by

tiffany
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Production

Short run production : when there is fixed cost


Long run production: when there is non fixed cost

Diminishing marginal returns ( short run only) : when more units of variable factors are
added to a given quantity of fixed factors successively , the marginal product of the variable
factors diminish

Economies of scale( long run only) : when the long run average cost decreases
Optimal scale : long run average cost is the lowest
Examples of Internal economies of scale ( when the firms expand on their own) :
1) Marketing economies of scale : the cost of advertising is spread over a larger
amount of output
2) Purchasing economies of scale : bulk purchase helps obtain greater discounts
3) Financial economies of scale : larger firms can take out larger loans easily
4) Managerial economies of scale : wider scope of specialisation can raise efficiency

Internal diseconomies of scale examples :


1) Marketing diseconomies of scale : Higher marketing cost to create new market
when the market becomes saturated
2) Purchasing diseconomies of scale : higher cost to buy more expensive resources
or subsidies

External economies of scale ( when the industry expands )


Examples :
1) Lower cost of recruitment : more experienced workers will be attracted to the
industry -> lower cost of recruitment
2) Sharing of facilities : the sharing of facilities and resources can lower the LRAC
3) Lower transportation cost : when the firms are more concentrated , the cost of
transportation drops

External diseconomies of scale examples :


1) Greater use of backup services will lead to higher LRAC
2) Traffic congestion occurs when there is a high concentration of firms

Types of expansion
Type Definition Advantage
Horizontal expansion Expand to similar and competitive industry Greater market share /
make use of existing resources
Lateral expansion Expand to similar but not competitive industry Spread risk by
product diversification / make use of brand name
Vertical forwards expansion Expand to industry involving next stage of production
Ensure market outlet
Vertical backwards expansion Expand to industry involving previous stage of
production Reduce training time for factor inputs / ensure steady supply of factor inputs
Conglomerate expansion Expand to unrelated industry Spread risk by product
diversification / make use of brand name

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