Diseconomies of Scale and Empirical Evidence

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Large petro-chemical plants achieve economies in both full usage and in utilisation of a wider range of by-products, which would otherwise, be wasted. But above 5,00,000 tonnes, diseconomies of scale sets in because of the following occurrences:

  • The plant becomes so large that on-site fabrication of some parts is required which is much more expensive;
  • Starting up costs are much higher, more capital is tied up and delays in commissioning can be extremely expensive; and
    • The technical limit to compressor size has been reached.

There is, however, no substantial evidence of diseconomies of large-scale production. In the final analysis, however, a significant test of efficiency is survival. If small firms tend to disappear and large ones survive, as in the automobile industry, we must conclude that small firms are relatively inefficient. If small firms survive and large ones tend to disappear as in the textile industry, then large firms are relatively inefficient. In reality, we find that in most industries, firms of very different sizes tend to survive. Hence, it can be concluded that usually there is no significant advantage or disadvantage to size over a very wide range of outputs. It may mean, of course, that the businessman in his planning decisions determines that beyond a certain size, plants do have higher costs and, therefore, does not build them.

Somewhat surprisingly, some Indian entrepreneurs have been perceptive enough to attempt to derive the advantages of both large and small-scale enterprises. In the late sixties, the Jay Engineering Co. Ltd. evolved a strategy of blending large units with small enterprises to obtain the best of both worlds. It manufactures its Usha fans in three different plants (Calcutta, Hyderabad and Agra), with each plant’ manufacturing the same or a similar range of products. Each unit is autonomous and is free to take operational decisions except in highly strategic areas. Within each unit, the work-force is kept small to carry out vital operations such as forgoing, blanking, notching and final assembly. The rest of the work is sub-contracted to neighbouring small-scale units, which over a period or time have become almost integral parts of each plant. Loans for the purchase of machinery are also advanced and technical know-how and sometimes-eve training is provided to these ancillary units.

Payments are made promptly. The whole system operates like families within a larger family. Managers in the US, who are always quick in innovating, have also begun adopting this blended system during the past few years. General Motors encourages the creation of a cluster of independent enterprises in an area, with adequate autonomy granted to the company’s area chief to encourage their growth and development. Consequently, though a giant in the automobile industry, General Motors enjoys a large number of the privileges that accrue to small units and also reaps the special benefits accruing to large business firms.

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