• Skip to primary navigation
  • Skip to main content
  • Skip to primary sidebar
  • Skip to footer

Penpoin.

Better Knowledge. Your Insight Is Sharper

  • Business
    • Business and Strategy
    • Marketing
    • Operation
    • Human Resources
  • Finance
    • Financial Analysis
    • Investment
  • Economics
    • Introduction to Economics
    • Microeconomics
    • Macroeconomics
  • Online Learning
    • Coursera
    • Udacity
    • Udemy
    • Skillshare
    • Magoosh
  • Reading List
    • Self-Help
    • Business and Money
You are here: Home / Introduction to Economics / External Economies of Scale: Definition, Sources

External Economies of Scale: Definition, Sources

Updated on April 15, 2022 by Ahmad Nasrudin

External economies of scale

External economies of scale refer to economies of scale originating from outside the company, rather than by internal companies. It arises when the average cost for each company goes down as the industry’s output rises.

We can also call it as positive external benefits from the industry expansion. When the whole industry grows bigger, all companies get benefits from a lower long-run average cost. 

External economies of scale are essential to promote sectoral growth in certain regions. It explains to us why many companies have production facilities that are close together in a particular industrial area.

Differences in internal and external economies of scale

Economies of scale occur when average cost declines as output increases. Two types of economies of scale, namely internal and external economies of scale. Internal economies of scale only apply to specific companies. Because it comes from internal, management has control over it.

Whereas, external economic scale, all companies in the same industry enjoy a reduction in average costs. Management has no control over the determining factors and impacts of economies of scale.

Sources of economies of scale

For an internal economic scale, companies reduce their unit costs from various ways, such as purchasing and marketing. When buying inputs in large quantities, companies often receive discounts. Discounts reduce input costs, hence the average production cost.

Another source of lower average production cost is from marketing economics. When selling more extra output, the company spreads the fixed costs of promotion over larger quantities.

The company also reduces average costs through labor division. More specialized workers, in combination with specialized technology, ultimately increase production volumes at lower average cost.

Meanwhile, external economies of scale occur outside the company. For example, when the government builds a transportation network in an industrial area, it will result in lower costs for companies in the area.

The next source of cost reduction is the agglomeration economy, where various identical companies are in the same location, such as Silicon Valley and Hollywood. Agglomeration attracts a variety of skilled workers to attend to those areas, allowing smaller recruitment costs and higher productivity. It also makes suppliers more efficient to meet a more extensive buyer base.

Negative side

External economies of scale might also be negative. It occurs outside the control of the company. Because all companies get the same benefits, it doesn’t make a company superior. The company cannot exclude competitors from benefiting.

Category: Introduction to Economics

AFFILIATE

25% off the first-month subscription for Chegg Study & Chegg Study pack.

If you click on this link, thank you for contributing to us. We may earn a commission when you buy through our links. Learn more ›

5 NEW ARTICLES

How to Handle and Resolve Stakeholder Conflicts

How to Handle and Resolve Stakeholder Conflicts

Stakeholders have different interests and goals, which are often contradictory. Stakeholder

What are the Benefits of International Trade

What are the Benefits of International Trade?

Increased access to cheaper and more varied goods and services is key benefits of international

Where Do Comparative Advantages Come From

Where Do Comparative Advantages Come From?

The comparative advantage stems from the ability to produce goods and services at low opportunity

What is the Capital Budgeting Process

What is the Capital Budgeting Process?

In simple terms, the capital budgeting process involves generating ideas, making proposals about

Autarky Examples, Pros, and Cons

Autarky: Examples, Pros, and Cons

What's it: Autarky is a system or philosophy in which an economy seeks to

Primary Sidebar

  • "Becoming Supernatural" by Joe Dispenza
    "Becoming Supernatural" by Joe Dispenza
  • "Thinking, Fast and Slow" by Daniel Kahneman
    "Thinking, Fast and Slow" by Daniel Kahneman
  • "Nonviolent Communication" by Marshall Rosenberg
    "Nonviolent Communication" by Marshall Rosenberg

Footer

5 TRENDING ARTICLES

  • Business Size: Definition, Measurement, Classification
  • Socio-cultural Factors: Examples and How They Impact Business
  • The Role of Business in Society and the Economy
  • Trade Restriction: Reasons, Types, and Impacts
  • List of Examples of Social Enterprises You May Be Familiar

EXPLORE MORE

CATEGORIES

Accounting and Finance Books Business and Strategy Financial Analysis Human Resources Investment Macroeconomics Marketing Microeconomics Operation

TOPICS

Aggregate Demand Business Management Demand Financial Analysis Financial Ratio Government Budget International Trade Leadership Macroeconomic Equilibrium Marketing Marketing Management Organizational Structure Profitability Ratio

Copyright © 2023 · About Us  · Privacy Policy and Disclaimer  ·  Affiliate Disclaimer  ·  Terms of Use  ·  Comment Policy  ·  Contact Us