Returns to scale  When a firm increases the various factors of production in a fixed proportion, the output increases in three ways: 1. Increasing returns to scale, 2.Constant returns to scale and 3. Diminishing returns to scale

Increasing Returns to Scale  When the ratio between the factors of production is kept fixed and the scale is increased, first the output increases in a greater proportion than the rate of increase in the factors of production.  For example, if factors are doubled the output is more than doubled.  The increasing returns to scale are caused by three reasons: i) Technical and managerial indivisibilities, ii) Specialisation and iii) Dimensional efficiency.

Law of Constant Returns to Scale  In a production process, the increasing returns to scale is observed first.  Subsequently, the expansion of scale leads to equal proportionate change in output.  The phase of constant return may be fairly long in the production of many goods.  When the factors of production are perfectly divisible, the firm may attain an optimum factor proportionality and constant returns to scale will prevail.

Law of Decreasing Returns to Scale  If the increase in all factors leads to less than proportionate increase in output, decreasing returns to scale begins to operate; diminishing returns to scale ensure that the size of the productive firms cannot be infinitely large.

Economics of scale  When a firm expands its scale or level of operation, it may get some benefits called economies of scale.  Generally the economies of scale are classified as internal and external economies.  Those economies which accrue to a firm on expansion of its own size are known as internal economies.  Those economies which accrue to a firm not due to its own operations but due to the operations of some other firms are called external economies.

 Internal economies may be both real and pecuniary. When a firm expands its scale of operation, it receives the following internal economies: i) Labour economies ii) Technical economies iii) Marketing economies iv) Managerial economies v) Financial economies vi) Economics of survival

Labour Economies  When a firm expands, it could immensely benefit by organising its labour force by employing skilled and experienced labour which help to increase output and reduce cost of production. Technical economies  When a firm adopts modern technology, it could increase its output significantly at a relatively low cost. Such economies are not available to small firms. Marketing economies  The marketing economies are one of the important benefits obtained by a firm when it expands. It will be producing in adequate quantity which may confer bargaining power to the firm to market its output.

Managerial economies  Large scale expansion helps a firm to have managerial specialisation by establishing various departments having specific activities. It could cut down its overall expenses because the overhead costs do not increase in proportion to increase in the size of the business. Financial economies  A big firm has many ways of generating required funds at a relatively cheap interest rate. It helps in better finance management such that interest burden is minimised. Economies of survival  Unlike small firms, the big firms could spread their risks by diversifying their activities which help them to survive even during difficult times.

Internal diseconomies of scale  When production is expanded continuously after a certain point, increase in production is less than proportionate than increase in factors of production. This is due to internal diseconomies of scale. Limitations on the availability of factors of production, problems in management and technical factors cause the internal diseconomies of scale.

External diseconomies  When a firm expands its production, it may cause some diseconomies which may not affect it but may affect others. Hence, they are known as external diseconomies. A fish processing factory, for example, may discharge its waste waters into an estuary or backwater which may pollute it. If water from such a source is used for aquaculture, the fish farms may suffer from fish diseases and consequent loss.