A2 Micro: External Economies of Scale

External economies of scale occur outside of a firm but within an industry. For example investment in a better transportation network servicing an industry will resulting in a decrease in costs for a company working within that industry.

Another example is the development of research and development facilities in local universities that several businesses in an area can benefit from. Likewise, the relocation of component suppliers and other support businesses close to the centre of manufacturing are also an external cost saving.

Agglomeration economies may also result resulting from the clustering of similar businesses in a distinct geographical location e.g. software businesses in Silicon Valley or investment banks in the City of London.

Formula One and External Economies of Scale

Britain has a history of providing a base for some of the most successful teams in Formula One. McLaren are based in Woking but Renault, Honda, Williams and Red Bull are all clustered in the east Midlands. Partly this is an accident of history - namely the availability of disused airfields after the war.

But the cluster of F1 teams is also a good example of the external economies of scale that can be generated when a group of producers develop and expand in a relatively small geographical area.

Most of the teams currently racing are based in the UK, along with their R&D operations. A whole network of industries, such as component suppliers, engineering and design firms, have sprung up in Britain, mostly in central England, to serve the sport both here and abroad. F1 also helps to support a far larger motorsport industry in the UK, for example rally car racing and all its associated industries.