Economic Inefficiencies Due to Increased Size: Varieties and Origins
In the pursuit of growth and expansion, industries often face economic challenges that can outweigh the benefits of scale economies. One such challenge is the external diseconomies of scale, a concept that highlights the disadvantages experienced by firms as they grow and increase their production beyond a certain point.
Manufacturing industries, for instance, can fall victim to external diseconomies of scale when increased demand for raw materials and skilled labor drives up input prices, creating resource constraints and higher costs for all firms in the sector. This is not an isolated case; polluting industries, such as heavy manufacturing, mining, or chemical production, also face external diseconomies due to the negative environmental externalities they generate.
Geographically clustered industries, like technology companies in big cities, while benefiting from external economies, also face external diseconomies. These include restricted locations causing increased living and operational costs outside the cluster and broader negative impacts like traffic congestion or housing shortages.
The mechanism behind external diseconomies of scale involves firms collectively increasing demand for inputs, leading to scarcity and price rises, plus negative spillover effects (such as pollution or congestion) borne by others outside the companies. These external diseconomies raise costs across the industry, reducing the benefits of scale economies.
As industries grow, they may also encounter internal diseconomies of scale. These are economic disadvantages caused by internal factors of the company, such as bureaucratic inefficiency, decreased motivation, duplication of work, and increased costs of special arrangements. For example, larger companies may adopt a tall organizational structure with several command chain layers, which can lead to communication issues and inefficiencies.
Moreover, the growing size of a business makes coordination and empowerment of employees more difficult, requiring more supervisors and additional costs. This can lead to increased targets for employees, which in turn can lead to isolation and decreased productivity due to loss of motivation. Without adequate compensation, increased complexity of work can lead to demotivation among management and employees.
In the eCommerce industry, the recruitment of foreign programmers due to a shortage of local labor can lead to higher wages and salaries for foreign workers, adding to the costs of these larger companies.
In conclusion, industries that have experienced external diseconomies of scale due to increased input prices and negative externalities provide concrete examples where the benefits of scale economies can be outweighed by these economic disadvantages. It is essential for industries to consider these challenges when planning for growth and expansion to ensure sustainable and profitable growth.
[1] Source: "External Economies and Diseconomies of Scale" by Investopedia (https://www.investopedia.com/terms/e/external-economies-of-scale.asp) [2] Source: "Internal Economies and Diseconomies of Scale" by Investopedia (https://www.investopedia.com/terms/i/internal-economies-of-scale.asp) [3] Source: "Urban Economics" by Investopedia (https://www.investopedia.com/terms/u/urban-economics.asp) [4] Source: "Pollution Externalities" by Investopedia (https://www.investopedia.com/terms/p/pollution-externalities.asp)
Businesses in industries that experience increased demand for raw materials or skilled labor, such as manufacturing or polluting industries, can encounter external diseconomies of scale, leading to resource constraints, higher costs, and negative environmental externalities. Moreover, geographically clustered businesses, like technology companies in big cities, may face external diseconomies due to increased living and operational costs, traffic congestion, or housing shortages.
