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IGCSEBusinessCambridge (CIE)Revision Notes4. Operations Management4.4 Costs, Scale of Production & Break-even AnalysisEconomies & Diseconomies of Scale

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First teaching 2025

First exams 2027

Economies & Diseconomies of Scale (Cambridge (CIE) IGCSE Business): Revision Note

Exam code: 0450, 0986 & 0264, 0774

Lisa Eades

Written by: Lisa Eades

Reviewed by: Steve Vorster

Updated on

Economies of scale

  • As a business grows, it is able to increases its scale of output which generates efficiencies that lower its average costs (AC) of production

    • These efficiencies are called economies of scale

    • Economies of scale help large firms lower their costs of production beyond what small firms are able to achieve

  • Economies of scale can result in lower average (or unit) costs, not lower total costs

    • The total costs will increase, but at a decreasing rate per unit

Explaining economies of scale

Economies of scale lower average costs as the scale of output increases
Economies of scale lower average costs as the scale of output increases

  • With relatively low levels of output, the firm's average costs are high

  • As the firm increases its output, it begins to benefit from economies of scale, which lower the average cost per unit

  • The business will reach a level of output at which costs are minimised

    • This point is found at the dotted line in the image above

Types of economies of scale

  • Economies of scale are generated by several internal factors, some of which the business has control over

Type of economy of scale

Explanation

Purchasing economy

  • Occurs when large firms buy raw materials in greater volumes and receive a bulk purchase discount

  • This lowers the average cost

    and provides a competitive advantage over smaller businesses

Managerial economy

  • Occurs when large firms can employ specialist managers who are more efficient at certain tasks

    • This efficiency lowers the average cost

  • Managers in small firms often have to fulfil multiple roles and are less specialised 

Marketing economy

  • Occurs when large firms spread the cost of advertising over a large number of sales, reducing average costs 

  • They can also reuse marketing materials in different geographic regions, which further lowers the average costs

Financial economy

  • Banks are more willing to lend to large businesses, as they present less of a risk than small businesses 

  • They are charged a lower rate of interest on borrowing, reducing average costs

Technical economy

  • Occurs as a firm is able to use its machinery at a higher level of capacity due to increased output

  • This spreads the cost of the machinery over more units and lowers the average cost

Examiner Tips and Tricks

A common mistake is to think economies of scale always reduce total costs. They actually reduce average cost per unit – total costs will still rise as output increases

Diseconomies of scale

  • A diseconomy of scale occurs when an increase in the scale of output results in a higher cost per unit

  • As a firm continues increasing its scale of output, it will reach a point where its average costs (AC) will start to increase

Explaining diseconomies of scale

Graph showing long-run average cost curve, demonstrating economies and diseconomies of scale. Lowest cost point indicates productive efficiency.
 Diseconomies of scale occur when average costs increase with increasing output

  • At some level of output, a firm will not be able to reduce costs any further. This point is called productive efficiency

  • Beyond this level of output, the average cost will begin to rise as a result of diseconomies of scale

  • This indicates that there is an optimal level of output that exists when the state of technology and capital (machinery) is fixed

Types of diseconomies of scale

  • Diseconomies of scale highlight that it is possible for a business to become so large that it becomes less and less efficient

  • A business experiencing diseconomies of scale may reconsider its organisational structure to improve communication and coordination problems

    • Many very large businesses often break themselves up into autonomous smaller units, which can communicate more effectively

The causes of diseconomies of scale

Type of diseconomy of scale

Explanation

Poor communication

  • As a business increases in size, more managers and employees will join the business

  • Communication becomes slower and mistakes may be made, leading to worsening efficiency

Weak coordination

  • Time-consuming decision-making may make it harder to coordinate workers and physical resources

  • The chain of command is likely to lengthen, limiting interaction with employees

Lack of commitment from employees

  • As the business grows workers may feel less valued as their interaction with management is limited

  • Workers may become demotivated, leading to a fall in output which can increase average costs

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    Lisa Eades

    Author: Lisa Eades

    Expertise: Business Content Creator

    Lisa has taught A Level, GCSE, BTEC and IBDP Business for over 20 years and is a senior Examiner for Edexcel. Lisa has been a successful Head of Department in Kent and has offered private Business tuition to students across the UK. Lisa loves to create imaginative and accessible resources which engage learners and build their passion for the subject.

    Steve Vorster

    Reviewer: Steve Vorster

    Expertise: Economics & Business Subject Lead

    Steve has taught A Level, GCSE, IGCSE Business and Economics - as well as IBDP Economics and Business Management. He is an IBDP Examiner and IGCSE textbook author. His students regularly achieve 90-100% in their final exams. Steve has been the Assistant Head of Sixth Form for a school in Devon, and Head of Economics at the world's largest International school in Singapore. He loves to create resources which speed up student learning and are easily accessible by all.