key term - Minimum Efficient Scale

Definition

Minimum efficient scale (MES) is the smallest scale of production at which a firm can achieve the lowest possible per-unit cost of production. It represents the point where economies of scale are exhausted, and any further increase in output does not result in a significant reduction in average costs.

5 Must Know Facts For Your Next Test

1. Minimum efficient scale is the point on the long-run average cost curve where the curve becomes relatively flat, indicating that further increases in output will not significantly reduce the average cost of production.
2. The minimum efficient scale is an important factor in determining the optimal firm size and the level of industry concentration, as it can create barriers to entry for smaller firms.
3. Firms that operate at or near the minimum efficient scale are often able to achieve the lowest possible per-unit costs, giving them a competitive advantage in the market.
4. The minimum efficient scale can vary widely across different industries, depending on factors such as the capital intensity of production, the degree of automation, and the importance of economies of scale.
5. Understanding the minimum efficient scale is crucial for firms when making decisions about capacity expansion, investment in new technologies, and entry into new markets.

Review Questions

• Explain how the minimum efficient scale relates to the concept of economies of scale in the long run.
  • The minimum efficient scale is the point on the long-run average cost curve where economies of scale are exhausted. As a firm increases its output, it can initially take advantage of economies of scale, which allow it to reduce its average costs. However, as output continues to increase, the firm will eventually reach the minimum efficient scale, where further increases in output do not result in significant reductions in average costs. This indicates that the firm has achieved the optimal scale of production and can no longer benefit from economies of scale.
• Describe how the minimum efficient scale can impact a firm's entry and exit decisions in the long run.
  • The minimum efficient scale can create significant barriers to entry for smaller firms, as they may not be able to achieve the same level of cost efficiency as larger, established firms. This can make it difficult for new firms to enter the market and compete effectively. Additionally, the minimum efficient scale can also influence a firm's exit decisions, as firms that are unable to operate at or near the minimum efficient scale may be forced to exit the market due to their higher average costs. Firms that are able to operate at the minimum efficient scale, on the other hand, may be more likely to remain in the market and maintain their competitive advantage.
• Analyze how the concept of minimum efficient scale can be used to predict the industry structure and level of competition in a market.
  • The minimum efficient scale can provide insights into the likely industry structure and level of competition in a market. If the minimum efficient scale is relatively high compared to the size of the overall market, it may lead to a concentrated industry structure with a few large firms that can operate at the minimum efficient scale. This can create barriers to entry for smaller firms and limit the level of competition in the market. Conversely, if the minimum efficient scale is relatively low compared to the market size, it may allow for a more fragmented industry structure with a larger number of smaller firms, leading to a higher degree of competition. Understanding the minimum efficient scale can therefore help economists and policymakers predict the likely industry dynamics and the potential for competition in a given market.

Related terms

Economies of Scale:

The cost advantages that businesses can exploit by expanding their scale of production, allowing them to reduce their average costs as output increases.

Long-Run Average Cost Curve: The curve that shows the lowest possible average cost of production for each level of output in the long run, when all inputs can be varied.

Diseconomies of Scale:

The cost disadvantages that can occur when a firm becomes too large, leading to an increase in average costs as output increases.