External Economies of Scale and the International Location of Production
Chapter 7
External
Economies of
Scale and the
International
Location of
Production
Copyright © 2012 Pearson Education. All rights reserved.
Preview
• Types of economies of scale
• Economies of scale and market structure
• The theory of external economies
• External economies and international trade
• Dynamic increasing returns
• International trade and economic geography
Copyright © 2012 Pearson Education. All rights reserved.
7-2
Introduction
• The models of comparative advantage thus far assumed constant returns to scale:
– When inputs to an industry increase at a certain rate, output increases at the same rate.
– If inputs were doubled, output would double as well. Copyright © 2012 Pearson Education. All rights reserved.
7-3
Introduction (cont.)
• But there may be increasing returns to scale or economies of scale:
– This means that when inputs to an industry increase at a certain rate, output increases at a faster rate.
– A larger scale is more efficient: the cost per unit of output falls as a firm or industry increases output. Copyright © 2012 Pearson Education. All rights reserved.
7-4
Introduction (cont.)
• For example, suppose an industry produces widgets using only one input, labor.
• Consider how the amount of labor required depends on the number of widgets produced.
• The presence of economies of scale may be seen from the fact that
– doubling the input of labor more than doubles the industry’s output.
– the average amount of labor used to produce each widget is less when the industry produces more.
Copyright © 2012 Pearson Education. All rights reserved.
7-5
Table 7-1: Relationship of Input to
Output for a Hypothetical Industry
Copyright © 2012 Pearson Education. All rights reserved.
7-6
Introduction (cont.)
• Mutually beneficial trade can arise as a result of economies of scale.
• International trade permits each country to produce a limited range of
External
Economies of
Scale and the
International
Location of
Production
Copyright © 2012 Pearson Education. All rights reserved.
Preview
• Types of economies of scale
• Economies of scale and market structure
• The theory of external economies
• External economies and international trade
• Dynamic increasing returns
• International trade and economic geography
Copyright © 2012 Pearson Education. All rights reserved.
7-2
Introduction
• The models of comparative advantage thus far assumed constant returns to scale:
– When inputs to an industry increase at a certain rate, output increases at the same rate.
– If inputs were doubled, output would double as well. Copyright © 2012 Pearson Education. All rights reserved.
7-3
Introduction (cont.)
• But there may be increasing returns to scale or economies of scale:
– This means that when inputs to an industry increase at a certain rate, output increases at a faster rate.
– A larger scale is more efficient: the cost per unit of output falls as a firm or industry increases output. Copyright © 2012 Pearson Education. All rights reserved.
7-4
Introduction (cont.)
• For example, suppose an industry produces widgets using only one input, labor.
• Consider how the amount of labor required depends on the number of widgets produced.
• The presence of economies of scale may be seen from the fact that
– doubling the input of labor more than doubles the industry’s output.
– the average amount of labor used to produce each widget is less when the industry produces more.
Copyright © 2012 Pearson Education. All rights reserved.
7-5
Table 7-1: Relationship of Input to
Output for a Hypothetical Industry
Copyright © 2012 Pearson Education. All rights reserved.
7-6
Introduction (cont.)
• Mutually beneficial trade can arise as a result of economies of scale.
• International trade permits each country to produce a limited range of