What Are Economies of Scope?
An economy of scope refers to the cost-saving strategy where the production of one good decreases the cost of producing another related good. By diversifying the range of goods or services produced, a firm can reduce long-run average and marginal costs of production, making operations more cost-effective than producing each good independently.
While economies of scope focus on efficiencies arising from producing a diverse array of goods, economies of scale emphasize cost reductions from increased production volume of a single good. Both concepts substantially influence corporate growth but operate on different principles – variety versus volume.
Key Takeaways
- Cost Synergy Through Variety: Situations where producing multiple types of goods together results in lower marginal costs than producing them independently.
- Contrasting Economies: Unlike economies of scale, which are driven by increased production volume, economies of scope thrive on a diversified production portfolio.
- Origins of Scope Economies: These efficiencies can sprout from co-production relationships, complementary production processes, or shared production inputs.
Grasping the Concept of Economies of Scope
Economies of scope make producing different products simultaneously more cost-effective than producing them individually. An illustrative example is a train carrying both freight and passengers, which operates more efficiently than two separate trains for each cargo type.
These economies can emerge from:
- Co-Products: Production processes yielding multiple valuable outputs.
- Complementary Production: Synergistic interaction between different production processes.
- Shared Inputs: Common use of production resources for different goods.
Co-Products: Turning Byproducts into Assets
Efficiencies can arise from co-produced products, frequently referred to as complements in production. For instance, dairy farmers produce both cheese and high-protein whey. While processing wood, byproduct black liquor can be burned for energy, reducing fuel costs and sometimes converted into commercial biofuels.
Complementary Production Processes: Leveraging Synergy
Complementary processes enhance production efficiency as seen in historic companion planting methods or modern cooperative training programs. Crops like corn, beans, and squash offer mutual benefits enhancing soil health and crop yields, and aerospace manufacturers partnering with educational institutions tap into a skilled labor pipeline while reducing training expenditures.
Shared Inputs: Maximizing Resource Use
Common inputs like labor or equipment can shore up multiple product lines within one firm. Restaurants utilize their equipment and staff for multiple menu items, significantly cutting down operational expenses. Procter & Gamble stretches the value of their experts across various hygiene product lines, bolstering overall efficiency.
Diversified Efficiency: Achieving Economies of Scope
Achieving economies of scope often involves strategic actions such as mergers, acquisitions, or even the discovery of new methods to utilize byproducts. Firms often gain these efficiencies through related diversification or horizontal integration.
Understanding Hindered Economies: A Scenario
Consider a leading desktop computer manufacturer, ABC, expanding its product line to include laptops, tablets, and phones. By reutilizing its existing manufacturing infrastructures across these varied products, ABC significantly reduces average total costs compared to operating separate facilities. This integrated approach underscores the power of economies of scope.
Related Terms: economies of scale, marginal cost, mergers and acquisitions, shared inputs, complementary production processes.
References
- National Energy Technology Laboratory. “Black Liquor Gasification”.
