Economies of Scale (Jihae)

Economies of Scale

Definition

Economies of scale take place when the cost of producing a product reduces as production volume increases. Simply put, it is referring to the cost advantages a business gains when it increases production. By spreading both fixed and variable costs over more units, it will help decreasing the average cost per unit. There are two types of economies of scale, internal and external:

• Internal economies of scale take place within the company when there are improvements to the production process, management, or technology.
  * Technical economies by using automation or digital system to increase the outputs but reduce total costs
  * Managerial economies by streamlining decision-making process to improve work efficiency
  * Financial and marketing economies by reducing borrowing and promotion costs as the business scales
  * Network economies by creating value as each new user enhances the experience for others
• External economies of scale derive from outside factors, such as industry growth, shared infrastructure, or access to skilled labor, which could reduce costs for all market participants.

However, when the growth reaches the limit, this could result in diseconomies of scale, where it’s actually expanding either too quickly or inefficiently.[1]

Tech Example for Economies of Scale: Instagram

Regardless of the number of users they have, Meta will have fixed cost in terms of maintaining its servers and datacenters, workforce (software engineers and other staff members), cyber security, app development, content moderation, etc. However, this cost will not increase proportionally with the number of users. In fact, once the system is settled, adding some more users will not make Meta to create a new server for them. This means fixed costs will spread out across the users, leading to economies of scale.

It’s also interesting to note the network economies here. Increase in the number of users result in creating value by improving user experience for the new comers. This also helps instagram to gain good reputation in the platform industry, drawing even more users to bring them more revenue.

Governance Implication

For a large-scale platform like Instagram, more users with lower average cost will lead to more investment for them to provide better service, hence attracting even more users and becoming greater in scale. With 3 billion monthly active users in 2026[2], the barriers are so high for competitors to join the game. This is how economies of scale contribute to market concentration.

Such large-scale platform with a billion-scale user base is no longer simply a company, but it is an infrastructure in which many actors are at play, namely creators, advertisers, businesses, etc. A governance problem may arise by exercising its rule-making power. For instance, Instagram make their users to follower their own rules such as terms of service, advertising rules, content policies, account restrictions, etc.

An Open Question

The idea of economies of scale from the example of Instagram fails to address the part that it could also lead to the influx of black users. There are growing risks of scams, inappropriate contents, and frauds along with the increase in the number of users. This could also mean more investment and cost in order to tackle such problems.