Economics essay DHS 1998 PRELIMINARY (YEAR 11) EXAMINATION Section III (Essay) How do firms grow? What advantages accrue to a firm as is increases its scale of operations? How can a firm achieve external as well as internal economies of scale? Use diagrams to illustrate your answer.
Many large corporations have very small beginnings, often as sole traders. These sole traders grew their business through processes of internal expansion, and hence enjoyed increasing economies of scale and reduced unit costs. Many firms then merge with other firms, through horizontal, vertical and conglomerate integration. These processes may ultimately increase the concentration of, and lead to increases in the efficiency of, the industry.
Let's take the example of a small corner store, owned by a sole trader. If business is good, the owner will decide to expand. As the business continues to expand, it will enjoy increasing internal economies of scale - efficiency as a result of its size.
In the long run, as all factors of production are increased, unit costs will fall, as shown in the diagram below.
This will mean that the average cost, or cost per unit of outputs, will decrease. The small supermarket will now employ more staff, and will enjoy benefits of bulk buying and discounts. Depending on the size of the market, this growth will continue until the technical optimum is reached (as shown in the diagram).
External expansion may now occur - this may be horizontal, vertical, or conglomerate integration, and involve mergers or takeovers of other firms. In horizontal integration, other firms selling the same product are the target of mergers or takeovers - another small milk bar may be bought out by the growing business. It may then buy into companies producing some of the goods it retails, or a transport...