A firm cannot continue to expand indefinitely or without a limit.As a firm grows or industry expands, the benefits the firm can reap or get from such growth or expansion have a limit.
Any further expansion in the scale of production beyond the limit will actually create negative which would increase the cost of production.
The negative effects to a firm due to its size or scale of production are referred to as diseconomies of scale.
Diseconomies of scale are therefore the problems a firm experiences due to expansion.
Sources of diseconomies of scale
Diseconomies of scale may arise from;
- Managerial functions which become increasingly difficult to perform as the firm expands. Communication and consultations take more time than before.
- Changing consumer tastes which may not be fulfilled immediately because decision-making may take too long.
- Increase in the costs of transporting raw materials, components and finished products.
- Labour unrest or disputes and lack of commitment from the employees because they are not involved in decision making
- Stoppage of production process when disputes arise since all production stages are interdependent and labour specialized.
- Lack of adequate finances for further expansion of the firm.
There are two forms of diseconomies of scale fiz internal diseconomies and external diseconomies of scale.
Internal diseconomies of scale
These are the problems a firm experiences as a result of large scale production due to its persistant growth. They include;
Managerial diseconomies of scale
These are the losses which may arise due to the failure of management to supervise and control the operations properly. This may be because the firm is large resulting into;
- Difficulties in controlling and coordinating the departments leading to laxity among employees.
- Difficult in decision making and communication and co-ordination between management and workers. Delays in decision making means lost opportunities.
- Impersonal relationship between management and workers, and staff problems not easily established which could lead to low morale, disputes, unrests/skills.
- An increase in management tasks leading to increase in number and impact of risks i.e. any error in judgement on the part of management may lead to big losses.
Marketing diseconomies of scale
These are losses which may arise due to changes in consumer tastes. These may be as a result of;
- A change in tastes leading to fall in demand for the firms products. A large firm may find it difficult to immediately adjust to the changes in the tastes of consumers, hence it will experience fall in its scale.
- An increase in the scale of production, which leads to higher demand for factor of production such as labour, raw materials and capital. This will result into higher prices for them. This will push up the prices of the goods and services produced, which will cause a fall in sales.
- High overhead costs
When the output of a firm increases beyond a certain limit, some factors may set in to increase the average costs.e.g the overhead costs incurred in production and marketing activities may increase. This is because firms may intensify their promotional campaign, incur heavy transport expenses and be forced to offer generous discounts in an effort to attract more clients. All these are factors that may increase overheads without any corresponding increase in real benefits to the firm.
Financial diseconomies of scale
These are losses which may arise due to a firm’s inability to acquire adequate finances for its expansion. This will prevent the firm from expanding further thereby limiting its capacity to increase the volume of its output.
External diseconomies of scale
These are demerits that affirm experiences as a result of growth of the entire industry. These include;
-scramble for raw materials
-inavailability of land for expansion
-scramble for available labour
-competition for available market
-easy targets especially in times of war.