Diseconomies of Scale: Definition, Causes, and Examples

Diseconomies of scale occur when increasing a firm’s output leads to higher average cost per unit. They are the opposite of economies of scale, where expanding production lowers per-unit costs. Diseconomies typically appear after a firm has passed the output level that minimizes average cost.

How they work

• A firm’s average cost curve usually falls as output increases (economies of scale), reaches a minimum, then rises (diseconomies of scale).
• Beyond the efficient scale, additional output raises per-unit costs because of management, technical, or external constraints.

Types and causes

Internal diseconomies of scale

Arise from factors inside the firm.

• Technical constraints
• Physical limits on equipment, workspace, or process synchronization (e.g., overcrowded facilities, mismatched production speeds across stages).
• Adding capacity (machines) without equivalent increases in maintenance, energy, or skilled operators can raise unit costs.

• Bottlenecks between divisions: if component A is produced faster than component B, the firm must slow A or add costly resources to B.

• Organizational constraints

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• Management and communication become harder as staff and departments grow, increasing coordination costs.
• Lower employee motivation and weaker accountability in larger organizations can reduce productivity.
• More bureaucracy and slower decision-making raise overhead and reduce operational efficiency.

External diseconomies of scale

Result from constraints in the external environment.

• Capacity limits on shared resources or public goods (e.g., congested transport routes, overloaded utilities) increase logistics and delivery costs.
• Depletion or scarcity of critical inputs (a “tragedy of the commons” scenario) drives up procurement costs.
• Price inelasticity of supply for key inputs: when suppliers cannot raise output easily, buying more inputs causes disproportionate price increases.

Identifying diseconomies of scale

Look for signs that average unit costs rise as output increases:
– Measured increases in cost per unit as production expands.
– Persistent bottlenecks or imbalances between production stages.
– Rising administrative, coordination, or logistics costs.
– Declining labor productivity or higher employee turnover.

Addressing diseconomies involves streamlining processes, investing in management systems, balancing capacity across stages, or adjusting scale to the firm’s optimal output.

Explain Like I’m 5

Imagine a bakery that makes more and more cakes. At first, buying a bigger oven and hiring one more baker makes each cake cheaper. But if the bakery gets so big everyone is bumping into each other and the ovens break more often, each cake becomes more expensive. That extra cost from growing too big is diseconomies of scale.

Are diseconomies of scale good or bad?

Generally they’re undesirable because they raise per-unit costs. However, recognizing them helps a firm find its most efficient scale and make corrective changes.

Quick FAQ

• How do you spot them? Track average cost per unit while increasing output; rising averages signal diseconomies.
• What causes them most often? Management and coordination difficulties, technical bottlenecks, and external resource constraints.
• How do they relate to market structure? They affect firm-level efficiency and can influence industry concentration and competitiveness.

Bottom line

Diseconomies of scale limit the benefits of growth by increasing per-unit costs beyond an optimal production level. Firms need to monitor costs, remedy internal bottlenecks, and account for external constraints to maintain efficient scale.