External Economies of Scale

External economies of scale are cost savings that a firm can realize by expanding its output beyond the point where internal economies of scale are exhausted. These savings are external to the firm because they are not dependent on the firm's size or the scale of its operations. Rather, they are the result of factors outside the firm, such as the availability of specialized inputs, the development of supporting industries, and the economies of agglomeration.

There are a number of different types of external economies of scale. One type is the availability of specialized inputs. As a firm's output increases, it may be able to purchase specialized inputs at a lower cost. For example, a firm that produces a large volume of a particular product may be able to negotiate lower prices with its suppliers.

Another type of external economy of scale is the development of supporting industries. As a firm's output increases, it may create a demand for new products and services. This can lead to the development of new industries that support the original firm. For example, the growth of the automobile industry led to the development of the tire industry, the oil industry, and the road construction industry.

Finally, there are economies of agglomeration. These are cost savings that a firm can realize by locating near other firms in the same industry. Agglomeration economies can arise from a number of factors, such as the sharing of common resources, the pooling of labor skills, and the development of a specialized labor market.

External economies of scale can be a significant source of competitive advantage for firms. By expanding their output beyond the point where internal economies of scale are exhausted, firms can realize cost savings that can help them to lower their prices, improve their quality, or increase their market share.

However, it is important to note that external economies of scale are not always available. In some cases, firms may not be able to take advantage of external economies of scale because they do not have access to the necessary specialized inputs or supporting industries. In other cases, firms may not be able to locate near other firms in the same industry.

Overall, external economies of scale can be a significant source of competitive advantage for firms. However, it is important to note that these economies are not always available, and firms need to carefully consider their options before expanding their output.