Economic History of the United States
Scarcity
Plenty
Trade
Economies of Scale
Assume the firm can change all factors
No fixed Resources (Land)
Labor and Capital
Production and Firm Size
Constant Returns to Scale
Increasing Returns to Scale
Decreasing Returns to Scale
If as the firm get larger, output increases in exact
proportion to inputs
If the firm add 10% more inputs, it gets 10%
more output.
Returns to Scale
Value of the Massachusetts Cotton Mill’s units of input and output in thousand of dollars
∆ in cost per unit Output in Output in Inputs in Inputs in
of output Period 2 Period 2 Period 1 Period 1
Constant Returns
to Scale 1 20 10 20 10
Increasing
Returns to Scale .8 22 10 20 10
Decreasing
Returns to Scale 1.2 18 10 20 10
Constant Returns
∆Inputs 20-20 = 10
=1
∆Outputs 20-20 = 10
If as the firm get larger, output increases are
greater than inputs
Example: suppose a firm adds 10% more inputs
and gets 12% more output.
Returns to Scale
Value of the Massachusetts Cotton Mill’s units of input and output in thousand of dollars
∆ in cost per unit Output in Output in Inputs in Inputs in
of output Period 2 Period 2 Period 2 Period 1
Constant Returns
to Scale 1 20 10 20 10
Increasing
Returns to Scale .8 22 10 20 10
Decreasing
Returns to Scale 1.2 18 10 20 10
Increasing Returns
∆Inputs 20-10 = 10
= .8
∆Outputs 22-10 = 12
If as the firm get larger, output increases are
greater than inputs
Example: suppose a firm adds 10% more inputs
and gets 12% more output.
The firm’s costs per unit of output fall; as the firm
get bigger, it become more efficient. Economists
label this phenomena economies of scale
A firm’s average costs fall because it gets bigger
Specialization
Teamwork
Bulk Buying
Additional Specialized Capital
Research and Development
The biggest plum (John D. Rockefeller and Standard Oil
Corporation) dangled before the (Lake Shore) railroad was a
promise to supply (it) with an astonishing sixty carloads of
refined oil daily. . . . For any railroad, the prospect of steady
shipments was irresistible, for they could dispatch trains
composed solely of oil-tank cars instead of a motley
assortment of freight cars picking up different products at
different places. By consolidating many small shippers into one
big shipper making regular, uniform shipments in massive
quantities, the railroads could reduce the average round-trip
time of their trains to New York from thirty days to ten and
operate a fleet of 600 cars instead of 1800.
-- Ron Chernow, Titan: The Life of John D. Rockefeller, 1998, p. 133.
If as the firm get larger, output increases are
greater than inputs
Example: suppose a firm adds 10% more inputs
and but only gets 8% more output.
Returns to Scale
Value of the Massachusetts Cotton Mill’s units of input and output in thousand of dollars
∆ in cost per unit Output in Output in Inputs in Inputs in
of output Period 2 Period 2 Period 1 Period 1
Constant Returns
to Scale 1 20 10 20 10
Increasing
Returns to Scale .8 22 10 20 10
Decreasing
Returns to Scale 1.2 18 10 20 10
Decreasing Returns
∆Inputs 20-10 = 10
= 1.2
∆Output 18-10 = 8
If as the firm get larger, output increases are
greater than inputs
Example: suppose a firm adds 10% more inputs
and but only gets 8% more output.
The firm’s costs per unit of output will rise; as the
firm get bigger, it become more inefficient.
Economists label this phenomena diseconomies
of scale
A firm’s average costs rise because it gets bigger
Non-Productive Employees
Management by Rules Rather then Productivity
Difficulty in Change and Innovation
Hierarchical Organization
Top
Management
Middle Management
Production Management
Producing Employees
Skeptics doubt that any manager . . . can manage today's
colossi. "Devotees of bigness are really fighting against all the
forces that are at work in the economic world," says James W.
Brock, . . . Among such forces, he includes the power that
computers can put in a worker's hands, as well as the rising
need for speed in business. Both factors are fueling a surge in
small start-ups, which can be more efficient, more innovative
and more globally competitive.
By contrast, large organizations "become hidebound and
muscle-bound and rule-bound and bureaucratic-bound, [and]
lose touch with what's going on in the world and markets and
so forth. You get layers and layers of people and
management," Prof. Brock says. "It is a challenge to try to
manage it, and I think it's an insuperable challenge beyond a
certain size."
-- Matt Murray, As Huge Firms Keep Growing, CEOs Struggle to Keep Pace, The
Wall Street Journal, February 8, 2001, P. A1.
Vertical Integration
Horizontal Integration
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Price of Steel Rails at Carnegie
Steel ($/ton)
1867 $166
1870 $107
1875 $69
1880 $68
1885 $29
1890 $32
1895 $32
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Andrew Carnegie
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Kerosene Lamp John D. Rockefeller