Suppose a shipping company employs 2000 workers, operates 400
delivery trucks and makes 1.5 million
domestic shipments in one year. The next year they increase their workforce to 3000 workers, operate
600 trucks and make 2.8 million domestic shipments in one year.
a) Did this firm experience increasing, decreasing or constant returns to scale?
b) Did this firm experience economies or diseconomies of scale?
a) % Increase in number workers = (3000-2000)/2000 = 0.5 or 50%
% Increase in trucks = (600 - 400)/400 = 0.50 or 50%
% Increase in output = (2.8 - 1.5)/1.5 = 0.86666 or 86.66%
Thus, increasing inputs by 50% each will increase out by 86.66%, so, the firm experiences an increasing returns to scale.
b) Suppose initially the total cost of production was C, then after each input is increased by 50%, the total cost will also increase by 50% to 1.5C.
Average Cost = Total Cost/ output
The new output has increased by 86.66% but total cost only 50%, so, average cost will decrease. Thus, the firm is facing economies of scale.
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