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Increasing Returns to Scale

Definition

Increasing returns to scale refers to a situation where an increase in all inputs used in production leads to a proportionately greater increase in output. In other words, as the scale of production increases, the cost per unit of output decreases.

Analogy

Imagine you have a lemonade stand and you decide to double your ingredients (lemons, sugar, water) while keeping everything else the same. As a result, you are able to make more than double the amount of lemonade because each additional ingredient contributes even more to the overall taste and quantity.

Related terms

Economies of Scale: Economies of scale occur when increasing the scale of production leads to lower average costs per unit. This can be achieved through factors such as specialization, bulk purchasing discounts, or technological advancements.

Marginal Productivity: Marginal productivity refers to the change in output resulting from adding one more unit of input while holding other inputs constant. It helps determine how much additional output is gained by increasing inputs.

Production Function: A production function shows how different combinations of inputs (such as labor and capital) result in different levels of output. It represents the relationship between inputs and outputs in a specific production process.