What Does "Returns to Scale" Mean?

"Returns to scale" is a term that is used to describe the type of changes that may occur to the output of a production process when some type of change takes place with the inputs involved in the process. Within the broader context, the results are often qualified as increasing, decreasing, or constant, depending on what has occurred with the inputs and how those changes impacted the output of the production process. Identifying the returns to scale aids businesses in determining if those changes are positive for the company, and may even aid in providing valuable data that can be used to reverse an emerging negative trend.

One way to understand the concept is to think in terms of what will happen when factors shift and have an effect on the total output of the operation. For example, if the production line is shut down for a few days due to an equipment failure and there is no time to make up that lost time later in the accounting period, there is a good chance that the output for the period will be adversely affected in terms of finished units produced. When considered in light of the costs of repairing and restarting the machinery are taken into consideration, this may indicate a decreased returns to scale.

At the same time, if changes in the production process make it possible to produce more finished units with the same level of resources consumed, those changes in the input factors lead to increased output that may be identified as an increased returns to scale. When changes to the inputs make no real difference in the relationship between inputs and outputs, the production is said to be constant returns to scale.

Understanding and assessing the concept is important to just about any type of business. Doing so makes it easier to be aware of the impact of any changes in cost of materials, labor costs and any type of capital expenditures that change the balance between inputs and outputs. Being aware of those changes allows a business to make the most of a positive change, often triggering thoughts on how to continue the trend and benefit the company. At the same time, the ability to readily identify changes that are not in line with company goals means the opportunity to take action that minimizes or possibly eliminates the underlying causes for the unfavorable returns to scale, restoring a balance that is considered more in line with the mission of the business.