Internal Economies of Scale and External Economies of Scale

This article discusses Internal and External Economies of Scale, Real and Pecuniary Economies, and their impact on International Trade. It explains the different types of economies of scale, such as technical, marketing, labor, managerial, and transport and storage economies. It also discusses the benefits of external economies of scale, such as concentration, information, and disintegration economies. The article concludes by explaining how economies of scale impact international trade and intra-industry trade.

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 1
Internal Economies of Scale and External economies of Scale
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Introduction
During the increase in scales of production to a certain level an individual gets economies of
scale. Beyond this increase there are diseconomies. There are two categories of economies of
scale which are internal and external. Basically, internal economies of scale are the ones which
are special to each company. Actually, as the company increases its production it enjoys
internally. For instance, one company may enjoy good management while the other may have an
advantage of good specialists. The existence of economies in production explains one of the
reasons for the countries to trade. Actually, the economy of scale models explains why intra-
industry trade exists. That is the trade between countries with the same characteristics as Canada
and the United States (Smith & Enables, 2010, p. 1503).
Internal Economies of scale
In Internal economies, a factory usually opens to a single economy without the influence of
another factory. This is as a result of scale output and it is not achievable unless the output is
increased. Internal economies are divided into real and pecuniary economies. Real economies are
related to the reduction of physical quantities of inputs, varied labor types, raw materials and
capital among others (Krugman, 2012, p. 45).
(i) Real economies of scale
Real economies are of various types. Technical economies influence firm size. In general, they
accumulate to large firms which from the capital of goods and machinery enjoy higher
effectiveness. Most applicable machinery is purchased by large scale producing companies with
more resources. Consequently, companies with large-scale production take pleasure in
economies by use of powerful techniques (Corden, 2009, p. 465).

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 3
(i) Technical economies
There are three kinds used in technical economies of scale. The first one is the dimension
economies. During an increase in economy of scale by a firm, average return increases, and
average cost falls. The second one is linked process big company carries all activities that are
productive which saves the cost of transport and time. The third one is economies of the use of
by-products. Big firms use the waste-products and by-products to produce other materials which
supplement their income.
(ii) Marketing Economies
Many selling or marketing economies are enjoyed when there is an increase in a firm’s scale of
production. Appointment of sole distributors, showroom opening, and economies of an
advertisement among others is included in marketing economies. A firm can do research to make
the product quality more effective and minimize production cost. Advertising economies are the
other types of economies from arrangements which are special from dealers who are exclusive.
All these undertakings result in large-scale production (Caballero & Lyons, 2015, p. 807).
(iii) Labor economies
Expansion of production scale results in the accrual of labor economies which include new
inventions, time-saving production among many others. There is the employment of a large
number of workers by big firms where each employee is given the job that fits him or her. There
is an evaluation of the effectiveness of working labor by an officer where possible. Employees
have skills in their operation are this helps to save time and production at the same time
encourages new ideas (Bruni, 2010, p. 178).

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 4
(iv) Managerial economies
The fourth internal economies are managerial economies. It refers to the cost of management and
good management of big firms in relation to production. There is a subdivision to various
departments which are lead by a specialist who keeps details of his department. A small firm
cannot afford this kind of expertise. Under expert supervision, the cost of production is
minimized. Mechanization and specialization of management functions lead to a reduction in the
cost of production.
(v) Transport and storage economies
The fifth real economies of scale are transport and storage. A farm that has large-scale
production enjoys transport and storage economies. A big farm uses its own transport means to
transport finished well from one place to another. Additionally, they enjoy economies of big
storage and go down facilities. This implies that when prices in the market are unfavorable, they
can store their products (Harris, 2010, p. 1018).
Pecuniary Economies
The second type of internal economies of scale is pecuniary economies. They are those that can
be experienced after payments of lower prices of production process factors and distribution.
Because big farms buy raw materials in large quantities, they can purchase them at low prices.
Consequently, they enjoy bank borrowing and advertisement concessions (Saunders & Thomas,
2016, p.45).
These economies occur in big companies in the following ways; firstly, the company purchases
raw materials in large quantities, this makes them get reduced prices from the supplier and this is

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 5
a monetary gain to the company. Secondly, the firms that do mass production of goods and
products are given loans at interest rates that are low and other favorable terms from the banking
sector. Thirdly, the big firms are given better transport facility means because of their large-scale
transportation capabilities. Fourthly, big companies are given facilities to advertise at lower costs
by advertising firms and newspapers (Chapman, 2013, p. 348).
External economies
They are the benefits accrued by all the companies working in a given industrial field. In general,
these economies are realized due to the expansion of industries and other government expanded
facilities. To be precise, external economies of scale are collective benefits enjoyed by firms or
industries when there is an expansion of economies of scale. The easiest instance of external
economies is experienced when the scale of production has an implicit variable of the industrial
output. For example coal mining in the locality (Christensen & Greene, 2014, p.656).
(i) Concentration economies
External economies of scale are divided into; concentration economies. The increase in a number
of firms in a certain area makes firms to enjoy transport and communication, availability of raw
materials, research and innovation benefits among other benefits. Also, they get financial
assistance from banks and other non- banks. From this observation, it can be concluded that
concentration leads to economies of scale.
(II) Economies of Information

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Secondly, there are economies of information. There is the mutual dependence of a number of
firms when they expand. More precisely, it can be argued that they do not feel the need for
research on an individual basis. They all use information from published trade j and scientific
journals which informs them on new markets, the source of materials, latest techniques among
others (Young, 2010, p. 235).
(II) Disintegration economies
The third external economies of scale are disintegration economies. During the growth of an
industry, it may decide to divide and sub-divide its production process. As a result of sub-
division, each firm specializes in its own process. For instance, in a moped industry, some firms
specialize in rims; hubs while others in pedals, chains among many others.
There are two types of disintegration, in horizontal and vertical disintegration. In horizontal
disintegration, each company in the industry specializes with one area of expertise while vertical
disintegration every firm works to specialize in the different field of expertise. Other firm’s raw
material might be availed for use by another firm. Therefore, waste products are converted into
by-products.
The cost minimization is achieved through selling firms through the use of their wastes products.
The firms that buy get other firm’s waste product at cheaper prices. This results to decline in the
average cost of production. Economies of scale are important in determining the industry nature
i.e. increasing, decreasing or constant industry cost. A firm experiences external economies and
diseconomies of scale when it expands in response to increased demand for its product. An
external economy minimizes production cost through shifting curve upwardly and results to long
period average cost curve. On the other hand, there is an increase in cost due to diseconomies

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 7
resulting in an upward shift of long period average cost curve. In a case whereby the external
diseconomy outweighs the external economies, net external diseconomies. In such a case the
industry will be an increasing cost industry (Henderson, 2011, p. 60).
Economies of Scale and International trade
Economies of scale impact the international trade through improving production efficiency in the
world and benefits for the welfare that are realized across all the countries that trade. The trade
among the countries does not depend on the differences under economies of scale assumptions.
Actually, it is acceptable that there might be the identity of countries in all dimensions and still
find it of benefit to trade (Caballero & Lyons, 2014, p. 806).
Trade among countries is better explained through economies of scale models for example trade
between the United States and Japan. There are similarities of technology in most parts of this
countries and also endowment and to some extent similar preferences (Gilmour, 2009, p.23). By
use of a simple classical model of trade these countries would have little or no reason to
participate in trade despite the fact that trade between developed countries makes up the very
important share of trade in the world. Therefore there is the provision of the solution by
economies of scale to this type of trade.
Intra-industry trade is another aspect of the economies of scale that has remained unexplained. In
average, same goods are imported and exported by countries. For instance, United States of
America imports and exports automobiles. Aggregation of products into one category leads to
intra-industry trade. For example, varied steel types are produced from flat-rolled to specialty
steels. This could be due to the fact that some type of steel needs a specific technology which the
country has a comparative advantage in it. Also, another country may possess a comparative

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 8
advantage in another steel type. However because both types of steel are aggregated in
import/export category, it could look as if there is importation and exportation of ‘identical’
products when actually they are importing one type of steel and importing another type
(Altınkılıç & Hansen, 2009, p. 194).
However, an intra-industry trade that is inclusive of products that are differentiated even when
differences in technology and resources do not exist. This type of model is commonly referred to
as the monopolistic competition model. It majorly concentrates on the consumer demand for
varied characteristics captured in the good that is sold in the product category. Differentiated
products are advantageous even when countries are the same in production capacities.
Economies of scale increase the number of the product’s variety for the consumer to opt from.
Also, they reduce the price of each variety in sell in the market. Also in the international trade,
economies of scale raise the supply of the products in other markets and results in lowering of
prices for those products.
Also, economies of scale generate trade gains in international trade due to the reallocation of
resources which increases world efficiency in productivity. To better explain how trade gains can
be achieved through a model similar to the Recardian model is used.
It is worthy to note that reallocation in all firms in a way that world production effectiveness
arises. Actually, if the two goods increase then, the terms of trade are made easy to be found.
Some aspects of economies of scale models make them appear quite unique from other trade
models. For instance, it is quite possible to illustrate that identical countries in every aspect
might be of advantage to trade. Therefore, the countries’ difference does not initiate a trade. In

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 9
this case, therefore, it is the aspect of the process of production that makes the trade gains to
work (Lancaster, 2010, p. 185).
Secondly, the scale of economies cannot be forecast l which country exports which well. There is
possibility of gaining in international trade provided the trade between countries takes place.
Additionally, it may not matter whether one’s country produces economies or not because both
countries will experience the anomies provided the right trade terms are put in place (Mundell,
2011, p. 326).
Regardless of the differences with other models, the major similarity is that the trade gains come
because of productive efficiency improvement. Through resource reallocation between countries,
it has been made possible to have more output production with the same amount of resources.
This has remained the major motivation in support of international trade (Fujita, Krugman &
Venables, 2014, p.200).
The economy of scale explains usefulness in the motivation of intra-industry trade. These are
trades that exist between countries within an industry rather than across the industries. Actually,
in simple terms, these models explain why countries import and export automobiles at the same
time. This type of trade is frequently measured but it is not explained in the Recardian or
Heckcher-Ohlin model of trade. In those countries, they might export wine and import cheese but
would not import wine at the same time (Helpman, 2015, p. 307).
The model does not demonstrate that intra industry trade arises, but also national welfare can be
improved due to international trade. Individual companies produce large quantities which uplift
individual welfare. Due to economies of scale production, unit-production costs are reduced. The
economies of scale lead to welfare improvement in international trade because consumers are

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 10
able to choose out of the great varieties of products that are available as compared autarky
(Krugman, 2014, p.185).
External economies of scale and international trade
International trade is where many countries are involved in trading. Due to the competitive
nature of the trade, the firms need to be smart enough in its production so that it reaps
enough. The companies that are willing and able to implement prudent and realistic economic
strategies survive the competition. The world’s economy and production efficiency of
individuals is improved as a result of the high competition of different firms in the international
trade. In international trade firms major most in production of products that they posses
comparative advantage (Krugman, 2014, p. 180).
Communication services in the international market. America even sources call centers from
India. The Indian call centers are not better than those of the United States and even their
workers are not fluent in speaking English but due to the fact that they offer their services
cheaply, this has made the United States and other nations to source their services
International trade has helped the companies to enjoy economy specialization and integration
of economies of scale (Chipman, 2013, p.347). As mentioned earlier, international trade is
much competitive and a firm can only gain if it has the best comparative advantage in
producing the products it sells. A good illustration of the comparative advantage that countries
which have petroleum production in chemical production therefore Countries in the United
States have comparative advantage in production of chemicals. These countries are inclusive of
Kuwait, Mexico and Saudi Arabia whereby they have become very competitive in the

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 11
international trade in terms of chemical production making the United States to remain
dominative in chemical market. India has comparative advantage in offering communication
services. It exports almost all the
International trade has impacted the firms participating in it with economies of concentration.
The concentration of firms from various countries to carry out international trade has led to the
development of financial institutions to avail funds to these firms in terms of loans for their
expansion (Ethier, 2016, p. 390). Examples are the World Bank and the International Monetary
Fund. As firms from various countries trade, foreign exchange has come in to help in currency
exchange so that they can successfully trade together.
Highly skilled labor force is accessible through international trade. This implies that as people
from different countries trade, they interact and exchange skills and knowledge. Some have the
intention of securing jobs in some of the international firms in the international trade. Actually
many people from developing countries secure employment from developed countries as they
trade. Therefore, due to reduction of employment costs, countries enjoy economies due to
availability of skilled labor.
The information circulation and flow has also been enhancing by international trade among
countries that trade together. As firms trade, they interact with one another and get
information about current issues in the market and adjust accordingly. International trade
journals are also published for the international trade partners to get information circulating in
the market.

INTERNAL ECONOMIES OF SCALE AND EXTERNAL ECONOMIES OF SCALE 12
Conclusion
In conclusion, trade is free if scales of economies are attained in production when good labor
reallocation is done; there is an improvement of the national welfare of the two countries relative
to autarky. The improvement of welfare comes about because the concentration of production in
economies of scale industry of one country. Therefore advantages can be taken of productivity
improvements.
Therefore countries that achieve economies enjoy some benefits. There is also a limit for large-
scale production. For instance, when the firm size increases beyond a certain limit the firm is
most likely to get diseconomies of scale in place of economies. Due to this reason, the firm must
work to maximize economies and minimize diseconomies to sustain its business for a longer
time.
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