Diseconomies of scale occur when, as a business expands in the long run, the unit cost of production increases

Diseconomies are the result of decreasing returns to scale and lead to a rise in average cost

Diseconomies of scale in a large business may be due to:

  1. Control – monitoring the productivity and the quality of output from thousands of employees in big, complex corporations is imperfect and expensive – this links to the concept of the principal-agent problem i.e. the difficulties of shareholders monitoring the performance of managers.
  2. Co-ordination - it can be difficult to co-ordinate complicated production processes across several plants in different locations and countries. Achieving efficient flows of information in large businesses is expensive as is the cost of managing supply contracts with hundreds of suppliers at different points of an industry’s supply chain.
  3. Co-operation - workers in large firms may develop a sense of alienation and loss of morale. If they do not consider themselves to be an integral part of the business, their productivity may fall leading to wastage of factor inputs and higher costs

Big organizations often suffer from the debilitating effects of internal politics, information over-load, complex bureaucracy, unrealistic expectations among managers and cultural clashes between senior people with inflated egos. The result can be that hidden costs increase quickly – expense accounts, a slump in productivity, a deadweight loss of time in slow-moving big businesses. This is the essence of internal diseconomies of scale.

Examples of internal diseconomies of scale

Avoiding diseconomies of scale

  1. Human resource management (HRM) focuses on improvements in recruitment, communication, training, promotion, retention and support of faculty and staff. This becomes critical to a business when the skilled workers it needs are in short supply.
  2. Performance related pay schemes (PRP) can provide financial incentives for the workforce leading to an improvement in industrial relations and higher productivity. The John Lewis Partnership is often cited as an example of how a business can empower its employees by giving them a stake in the financial success of the organization. Each partner gets a share of the firm’s profits each year,
  3. Out-sourcing is a tried and tested way of reducing costs whilst retaining control over production although there may be a price to pay in terms of the impact on the job security of workers whose functions might be outsourced overseas.

The best way to avoid diseconomies of scale is to make business organization less complex and more transparent.

Featured
CPD courses

Economics Teachers National Conference 2015

Our popular Economics Teacher National Conference takes place on Monday 22 June 2015 at the superb Wellcome Collection Auditorium on Euston Road in Central London. This is the leading enrichment CPD event for Economics teachers in the UK and always attracts a good number of teaching colleagues from further afield too!Confirmed speaker line-up:Duncan Weldon - BBC Newsnight Economics Correspondent (Economic Policy after the Election)Sir Paul Collier, Oxford University - Where next for Development Economics?Adrian Woolridge (The Economist) - The Great DisruptionDavid Smith (Economics Editor of the Sunday Times) Prospects for the UK EconomyOur delegate prices are:Single Delegate - £175 per personDepartment Deal - £125 per person (for two or more colleagues attending from the same school or college)PGCE / NQT - £75 per person

Learn more ›

Teaching & learning products

Edexcel AS Economics Worked Answers (2014)

Exemplar A Grade answers, with Examiner commentary, to the Edexcel AS Economics Unit 1 and Unit 2 exam papers sat in summer 2014

£5.00

Edexcel A2 Economics Worked Answers (2014)

Example A Grade answers to the Edexcel Unit 3 and Unit 4 exam papers sat in June 2014

£5.00

Latest reference