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Difficulty: MediumScales of Production and Economies of Scale

A commercial banking enterprise based in Lagos expands its long-run scale of operations by acquiring two smaller financial institutions and centralizing its administrative management and information technology infrastructure. Following this expansion, the bank observes a sustained reduction in its long-run average cost per customer transaction serviced. Which of the following best describes the cost advantage experienced by the firm?

  1. Internal economies of scaleAnswer
  2. B
    External economies of scale
  3. C
    Internal diseconomies of scale
  4. D
    Short-run reduction in fixed costs

Answer

The cost advantage experienced by the bank is classified as internal economies of scale.
When a firm expands its individual operations and reorganizes its internal structure—such as centralizing IT services and managerial operations—it achieves managerial and technical efficiency. This lowers its average cost per unit of output in the long run, which is the precise definition of internal economies of scale.

Step-by-Step Solution

1
Identify the nature of the firm's growth
The firm is expanding its own individual scale of operation long-term by acquiring other institutions and restructuring internal IT and management systems.
Cost reductions stemming from actions taken within the boundaries of a single firm represent internal developments rather than industry-wide factors.
2
Analyze the impact on unit production cost
The bank experiences a decline in long-run average cost per unit of service (customer transaction).
A fall in long-run average costs as scale increases defines economies of scale.
3
Distinguish between internal and external factors as well as short-run vs long-run dynamics
Because the efficiency gains (managerial and technical specialization) occur within the expanding firm across all inputs in the long run, this constitutes internal economies of scale.
Efficiency gains unique to the expanding business entity represent internal economies of scale.

Key Concept

Internal Economies of Scale
Estimated Time:1m 0s
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Topics

Scales of Production and Economies of Scale

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