External Economies of Scale
- Cluster Efficiencies & Agglomeration - Some industries, and especially those for which research and development costs are high, are known to benefit from locating in close proximity to each other. This results in clusters of firms whose employees socialize and share ideas. These clusters also pool together many specialist firms that can profitably cooperate with each other on some projects.
- Infrastructure - Well conceived public expenditures on key infrastructure can lead to substantial scale economies by reducing logistical costs and opening up new markets. This can include more than physical infrastructure; high speed internet connections and other technological infrastructure can deliver significant returns to scale.
- Education System - If firms have difficulty recruiting workers with the right educational attainment levels e.g., medical professionals, then targeted public investment in the educational system will allow scale economies to be achieved.
|NOTE| There is some confusion about what can be counted as an external economy of scale, and this usually relates to how taxes/subsidies are misunderstood. It is certainly true that a firm or industry can gain an advantage from a subsidy that its competitors do not receive (or from a tax/tariff that is only levied on its competitors), but in the absence of market externalities these will do nothing to improve efficiency. In fact, they will do harm to the market and create diseconomies of scale.
Keep in mind that to classify as an economy of scale there needs to be a real cost saving (not a transfer of cost onto someone else) that is realized as a firm/industry increases its scale of production.
Globalization & Economies of Scale
Traditional analysis on scale economies tended to be based on a national model whereby research would be focused on estimating how many firms an economy could support at the minimum efficient scale (MES) of output i.e., the minimum size at which a firm needs to produce in order to gain all possible economies of scale.
That research would show that the gains from expansion were large, and that many industries (manufacturing in particular) would tend towards monopoly structures because national markets were not large enough to support more than a few huge producers. As time passed, and as international trade barriers were lifted as part of the push towards globalization, national market size became less relevant because national firms would compete in international markets.
This has supported the growth of huge multinational corporations like Microsoft, Amazon, Toyota, Volkswagen, Apple etc to expand beyond national boundaries and set up operations in many countries. Economies of scale were enhanced by modern technology that made complex management structures easier to operate. Better logistical management and cheaper transportation costs further fueled the cost advantages of international expansion.
While the cost saving advantages have been substantial, globalization has also made global supply lines much more important, and it has rendered many Western countries reliant on other countries to supply many of its basic necessities. That became a problem in the wake of the Covid-19 global pandemic, when many countries went into lockdown and mothballed their industries. Global supply-chains were upended, and costs rose sharply.
What the future holds is uncertain, but at the time of writing it looks like the trend towards ever more globalization is over, and a partial reversal seems likely.
Mergers and Acquisitions
The potential for economies of scale in mergers and acquisitions is often used as a primary rationale for justifying such things. In most cases this is uncontroversial, but it will become so if the proposed union of two firms will create a firm that has market power e.g., a monopoly. In these cases the merger may be challenged in court under anti-competition laws.
There are many examples of these court cases, with battle lines often being drawn on the proper definition of whatever industry is under scrutiny. The Federal Trade Commission will typically argue that a narrow definition applies while a defending business will argue that it competes in a much broader industry. The point being that the defending industry wants to be seen as a small business in a much larger competitive industry while the FTC will argue that the business operates in a small industry in which it has market power.
The famous textbook example is Coca Cola i.e., is it in the soft-drinks industry or the beverages industry? If the former then any economies of scale justification for acquiring other soft-drinks producers will likely be defeated by the FTC in court. If the latter then an acquisition would likely be allowed.