Question

3. Briefly explain the difference between external and internal economies of scale. Why is it that if an industry is operating under conditions of internal scale economies then we cannot have perfect competition?

4. State one factor which may lead to external economies of scale.

Answer 1

3.

Economies of scale is a phenomenon of reducing cost per unit output by expanding the scale of production. There are two types of economies of scale; internal economies of scale are firm-specific and occurs when the productivity of firm increases leads to decrease in average cost while external economies of scale can be due to various positive and negative externalities which affect the entire industry and cause average cost of production to fall. An industry which operates under internal scale economies would never be under perfect competition because the former lead to comparative advantage among firms where some firms can be more productive than others hence does not remain identical which is one of the assumptions under perfect competition.

4.

There are numerous factors which cause external economies of scale for example when competing firms are set up in the same area requires specialized workers would lead to decrease in cost of production as better training and innovation would scale production and more workers would be employed in different tasks.