Economies of scale

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In economics, the term economies of scale refers to a situation where the cost of producing one unit of a good or service decreases as the volume of production increases. The converse situation in which the cost of producing a good or service increases as the volume of production increases is known diseconomies of scale. Economies of scale tend to occur in industries with high capital costs in which those costs can be distributed across a large number of units of production.

The exploitation of economies of scale helps explain why companies grow large in some industries, why marketplaces with many participants are sometimes more efficient, and how a natural monopoly can often occur. It is also a justification for free trade policies, under the idea that a large unified market presents more opportunities for economies of scale.

Network externalities resemble economies of scale, but they are not considered such because they are effects of the number of users of a good or service, not of efficiency within a business. On the other hand, Economies of scale external to the firm are not considered examples of network externalities despite the fact that they arise from similar non-market interactions with external resources. There is something arbitrary about this, to the extent that either approach may be used if corresponding definitions are used. The most important thing is be consistent about it, which means respecting the established convention.

see also : microeconomics, production, costs, and pricing, economies of scope, economies of agglomeration

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