In economics, returns to scale describe the relationship between the size of a firm (or a production unit) and its long run average costs per unit. Typically, returns to scale are initially increasing, and as volume of production increases, eventually diminishing, which produces the standard U-shaped cost curve of economic theory. In some economic theory (eg perfect competition) there is an assumption of constant returns to scale.

An alternative terminology is economies of scale for increasing returns to scale, and diseconomies of scale for decreasing returns to scale. Being shorter this is often more convenient.

Economies 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, and for state monopolies , under the idea that a centrally governed organisation is more efficient than a collection of independent regional companies.

Network externalities resemble economies of scale, but they are not considered such because they are a function of the number of users of a good or service in an industry, not of the production efficiency within a business. Economies of scale external to the firm (or industry wide scale economies) are only considered examples of network externalities if they are driven by demand side economies.

See also

• microeconomics
• production, costs, and pricing
• economies of scope
• economies of agglomeration

External link

• Economies of Scale and Returns to Scale
• Measuring Costs of Production