
How important are 'economies of scale'? - simonpure
https://mattstoller.substack.com/p/national-champs-or-national-chumps
======
lend000
"Bigness often cuts against innovation."

The term the author needs is "diseconomies of scale." Economies of scale is
unquestionably important for increasing value production and economic growth.
However, if economies of scale is a positive feedback signal, it is
diseconomies of scale that acts as a negative feedback signal, keeping the
economy in equilibrium by recycling the old companies that fail to innovate
and adapt back into the market, and providing opportunities for smaller, more
innovative companies to gain a foothold before they achieve economies of
scale. You see diseconomies of scale in companies that have multiple groups
working on the same product, lack of oversight and skewed incentives, and
overall organizational incompetence that often stems from complacency in a
once innovative company.

This is where rent-seeking and regulations come into play. Having legal scale
enables less innovative companies to get into the business of lobbying and
regulating themselves. Most companies that are not completely dominant in the
absence of government want to be regulated in certain ways, because it helps
entrench them, such as Telcos, defense contractors, "software" consultancies
like PwC, etc.

I've observed that your average Joe will immediately think a regulation is
good for "the people" and bad for "the company" without context. In reality,
it's important to determine if it's a _good_ regulation: i.e., one that
charges a proportional cost or mandates an antidote to an externality on
society.

If the regulation instead creates occupational or corporate licensing
requirements, or really is doing anything besides addressing the externality,
you will most likely entrench the bad actors, add some inefficiencies for
paperwork, possibly create other unintended consequences, and accomplish
nothing.

~~~
clairity
> "'Bigness often cuts against innovation.'

> The term the author needs is 'diseconomies of scale.'"

diseconomies of scale, like economies of scale, are systemic characteristics
that change (somewhat predictably) with size.

stagnation resulting from bigness is a self-inflicted dysfunction that is
independent of size (that is, it doesn't only happen when companies get big).

and multiple groups working on the same product might not be a dysfunction at
all. it could just be risk mitigation (that only a large company can afford).

my point isn't so much to disagree, but to redirect. organizational
dysfunction increases as companies get larger because of "coordination
neglect" (it gets harder to keep all the initiatives pointing in the same
direction as communications channels necessarily multiply with size).

but risk socialization strategies at large companies leading to things like
"too big to fail" bailouts really chap my hide. those companies should go
bankrupt--not out of business, but reorganized, with the execs replaced, their
compensation clawed back, and possibly sued for malfeasance.

the bigger you are (or equivalently, the more power you have), the bigger the
consequences and the more important it is to face justice from wrongdoing, the
exact opposite of the direction we're headed right now in the US (e.g., recent
presidential pardons).

~~~
thaumasiotes
> stagnation resulting from bigness is a self-inflicted dysfunction that is
> independent of size (that is, it doesn't only happen when companies get big)

How could stagnation resulting from bigness happen to a company that hadn't
gotten big?

~~~
comicjk
"Big" is relative. If a company starts falling apart as soon as the founder
can't personally manage everyone, it has a disease of bigness, even though
it's still small on some absolute scale.

------
darksaints
Often the investments that are made possible by scale aren't really an
economic advantage, but rather an economic tradeoff, and many times it is of
the worst kind: a visible advantage (lower variable costs) for an invisible
disadvantage (higher fixed costs as well as other cash flow risks).

As an example, we have the story of every single major retail company failure
in the last 150 years. Fast sales growth leads to growth in physical presence,
which leads to excessive inventory. Excessive inventory isn't the end of the
world when revenue is strong...but it _can_ be the end of the world when
revenue drops. When the going gets tough, having all your working capital tied
up in inventory that isn't moving often leads to the death spiral.

Even Amazon isn't immune. Look at their inventory turns from 2003 vs today. It
is absolutely shocking how much they have degraded. Sure, they've had amazing
revenue growth from their laser focus on reducing shipping times and costs,
but that laser focus has led them to build hundreds of warehouses, and each
warehouse you build is going to increase your inventory requirements. I'll
fall short of predicting their downfall from the next recession, but from
their financial trends, they're not exactly looking much different from Sears
or Circuit City or ToysRUs.

~~~
chii
the difference is that amazon's tech operations can fund their other business,
even at a loss (as they had done so in the past iirc).

AWS is insanely profitable, and looking likely to continue being insanely
profitable.

------
mips_avatar
I don’t really see how a return to dispersal of innovation and r&d spending is
supposed to help the United States against China. It’s just another way for
the US to pay for China’s gains. Huawei built its business on stolen American
intellectual property. It’s routers instructions manuals have had the same
spelling mistakes as the Cisco models they cloned. Huawei is now at the
forefront of telecom innovation but they got into this orbit using a boost
from stolen American intellectual property. The biggest change that China is
forcing on the United States is a closing of America. When American openness
is abused by the Chinese government America must change. But how will we
change, and what does that mean?

~~~
alasdair_
It is worth remembering that the USA became what it is today by stealing
British designs and patents wholesale until it had caught up technologically.

~~~
minikites
[https://stratechery.com/2015/xiaomis-
ambition/](https://stratechery.com/2015/xiaomis-ambition/)

>And, I might add, from my perspective it’s not a big moral problem either:
the truth is the United States ran just as roughshod over intellectual
property during its rise to power as China does today, and I’m more than
sympathetic to the developing world’s position that the West is attempting to
pull up the ladder behind it: no one was holding Europe or American to task
for pollution or intellectual property or workers’ rights the way the West
does the rest of the world. That doesn’t make it “right,” it just makes
“right” a whole lot more gray than “Xiaomi-are-copycats” complainers are apt
to admit.

------
pjkundert
One of the largest and most important “economies of scale” is in complying
with government regulation.

Small business are crushed with huge costs (on the order of 10% of Gross
Revenue) to comply with government tax, accounting and legal requirements,
compared to fractions of a percent endured by large corporations — who have
departments lobbying the government to create and refine the laws crushing
their future competition.

Solve that, and many of the existing “diseconomies of scale” would become
lethal to these large, sclerotic enterprises.

~~~
clairity
yes, aka regulatory capture.

having really read the article (rather than skimming it the first time), i
think this gets at the point of the (rather rambling) essay, trying to
distinguish legal scale (in which regulatory capture fits) vs. technical scale
(the normal kind of scale).

before the 70's, we relied on the latter kind of scale along with a robust
focus on decentralizing power, and benfitted from all sorts of innovation (in
which government also played a central role with major r&d spending).

these days, we rely on legal scale, just being big and being able to throw
your weight around, which hides a lot of waste (like concentrating wealth
among those who don't know how to innovate with it). and we're losing, not
just against other countries, but compared to our former selves.

------
paganel
> Please keep sending me info on what you’re seeing in terms of supply chain
> disruptions. I think that is one of the biggest stories in the world right
> now

Preceding the article and not directly related to it, but imho I also find
this subject one of the biggest stories right now and it's a pity that it
hasn't yet been discussed on HN the way it should have been (or at least I
didn't see it discussed that way), probably because of some active moderation
efforts concerning covid-19.

~~~
dredmorbius
Examples?

~~~
paganel
Apple’s warning about it was not discussed at all, even though pretty much
everything Apple officially says is discussed at length in here. Plus, you
would think that seeing images with the streets of Beijing and Shanghai
basically empty would have elicited at least a post or two on this website,
seeing that just yesterday we had a discussion on the front page about the
Paris car traffic being slightly lower compared to last year. There was also
the news of China’s greenhouse emissions being down by 25% because of
coronavirus, again, we’re talking about a subject dear to HN users (the
environment) which was practically ignored.

~~~
dredmorbius
Thanks.

------
rossdavidh
While I agree with much of what is being said, I find the anti-China tone
troubling. The monopolization and centralization of the U.S. economy (and thus
politics) would be equally problematic, even if China had a democratic
government and we had 0% chance of a military conflict with them. The "China
is dangerous, we need to be ready for a war with them" subtext, I think, just
detracts from the overall point about the problems of bigness in the private
sector (which, again, I fundamentally agree with).

~~~
eropple
This sort of complaint is weird to me. Sure, monopolization and centralization
in the US would be a problem too, but...that's not what actually exists. We
have a number of large companies that probably should be parted out for better
competition--something I'm _super_ in favor of--but the state is not actively
pulling their levers.

Is criticism of China subject to dismissals of "anti-China tone" when _it
describes what 's happening_?

~~~
StreamBright
It _is_ a problem. There is no need to use hypothetical here.

\- healthcare

This high degree of concentration has been building for years. A study
published in the American Economics Review in 2012 found that the share of
U.S. communities in which health insurance markets had become “highly
concentrated” (using the standard deployed by Federal anti-trust regulators)
increased from 68 in 1998 to 99 percent in 2006. The same study concluded that
this increase in concentration had caused a seven percentage point increase in
premiums over the period.

\- telco

[https://www.groundedreason.com/does-the-u-s-have-a-
broadband...](https://www.groundedreason.com/does-the-u-s-have-a-broadband-
monopoly-problem/)

The actual list is long. There are 2 more obvious examples.

~~~
eropple
If you don't grok the difference between unhealthy levels of corporate
concentration and _every major business in every industry having agents of the
ruling party in the org chart_ , I don't know what to tell you.

------
zmmmmm
Economies of scale are important but I think the thing is, they hit massively
diminishing returns after you get past a critical threshold that is usually
industry dependent, but related to the cost of capital to overcome fixed
overheads.

For example if you can afford to build a fully automated factory to
manufacture your product then you are probably 95% as efficient as a company
that can build 10 such factories.

The large companies we have now are exceeding that size by one or more orders
of magnitude.

------
jugg1es
This articulates many thoughts I've had over the last few years relating to
advantages that China has over the US/west in terms of ability to focus at a
national scale versus the power of the west relating to individual incentives.

History shows that the US is at it's strongest when it can focus as a nation
on the ends by leveraging capitalistic incentives as the means.

------
soniman
What is "legal" scale? He just says "and then there's legal scale" and doesn't
define it.

~~~
prostheticvamp
Legal scale is being big on paper, such as a single corporate entity owning
multiple others. This implies, but does not require, efficient operational
amassing of men and capital.

------
sunstone
They're more important in steel making than in rocket launching.

------
sitkack
Economies of scale work when you have end to end supply chains and can save
incremental transaction costs on raw-ish materials.

They _don 't_ work when you concentrate power in large companies that waste
human resources and continue to have large blind spots. Our tech sector would
be way more robust in all dimensions if it were made up of thousands of
entities rather than these monoliths. As HN as this sounds, we need
microservices and service meshes to make capitalism work. Anything else and
you get myopic, calcified monopolies, that while they dump huge sums of money
into projects, that money is largely wasted.

~~~
Nasrudith
There are limits to that as well - defacto standardization can have boons as
well due to the "ergonomics" of many competing standards. It brings to mind
the old 90s "tons of sound card options to select installing".

Open standards technically can avoid some of it but the equilibrium tends to
involve "defecting" to decommoditize and compete leading to a breakdown
anyway.

------
roenxi
:/ I've got strong opinions here, even if they might be a bit radical to all
jam in one post. It is likely that the reforms of the 1970s broke the US [0]
and if it wasn't them then something changed (maybe access to cheap oil, maybe
other nations recovering from WWII) that really broke the environment where
the US understood how to be successful. The US has to ask itself how effective
its 'capitalist economic system' really is.

* It has a higher tax:GDP than China [1]. That is to say, the nominal ratio of money siphoned into government vs money retained by private citizens is less free than China's. There isn't really a point of comparison here because the two countries are so different (eg, China has state ownership) but there is some shock value in just how large the US government is in the economic sphere.

* It has socialised access to capital. Large banks have the power to create new money and the US government steps in during crisises to pick winners and losers when the lenders are proven to be incompetent at taking risks (eg, 2008 era). China does this too, but the battle becomes which government is more astute at supporting bad risks rather than which system is more effective. China is probably more long-term strategic, using the money to build useless infrastructure instead of the US using money to uselessly boost asset prices. This point is a huge deal to me and really undermines my faith in the effectiveness of free markets used elsewhere in the system.

* A complicated IP law system where people are prevented from doing things they know are good ideas. China largely ignores this system.

This article teases at one point; which is socialised access to capital
favours companies that are too large to compete but can negotiate for loans
and are known to government/large investors.

[0] [https://www.epi.org/publication/charting-wage-
stagnation/](https://www.epi.org/publication/charting-wage-stagnation/) &
_EDITED_ from 1980s, a decade too late.

[1]
[https://en.wikipedia.org/wiki/List_of_countries_by_tax_reven...](https://en.wikipedia.org/wiki/List_of_countries_by_tax_revenue_to_GDP_ratio)

~~~
TaylorAlexander
It has amazed me how much innovation there has been in FDM 3D printers since
the patents expired in the mid 2000's. In 2012 Stratasys published an article
congratulating themselves for the ten year anniversary of the release of their
"low cost" $30,000 3D printer. [1] Meanwhile I'd been playing with my first
open source 3D printer which was $1900. The designs did not come from one
monolithic corporation but a distributed group of hackers and 3d printing
enthusiasts from around the world. Interested parties from all over the world
improved on open source 3D printer designs and released their findings for
free to be taken up by the community.

8 years later and you can buy a beginner's 3D printer for $250, a very
reliable open source machine for $1000, and a super high end machine for
$15,000.

To say that patents always stimulate innovation is obviously false to me.
Patents may stimulate innovation at times but they also clearly stifle it. I
was thinking today how the Prusa 3D printer is no more technologically complex
than a pen plotter from the 1980's. If it had not been for patents, many
companies could have competed for the high end 3D printer market in the
1990's, prices would have been perhaps a few thousand dollars for a printer in
the year 2000, and the spread of personal computers would have led to the same
hacking and innovation to lower costs we've seen but perhaps ten years
earlier.

And the second order effects of this are I think dramatic. 3D printers
accelerate innovation by dramatically reducing the cycle time for iterative
development of mechanical parts. In the 1990's if you designed a mechanical
part you had to wait weeks for it to come back from a machine shop if you
could not hire a 3D printer. With a 3D printer in your office you can get a
mechanical sample of your design the next day, and go through 5 design
iterations in a week.

Instead of allowing for cheap and ubiquitous 3D printing, we chose to give a
legal monopoly to stratasys who got to profit greatly for it. And I think
society suffered economically because of it.

It is a source of great frustration to me that people dogmatically believe
patents cause innovation. It is quite obvious to me that there are benefits to
innovation even without intellectual property protection. Prusa Research still
makes all of their products open source and they appear to be a healthy,
growing, multi-milion dollar a year business. Chinese clones flood the market
and are great for broke students, but those who want more reliability still
source from Prusa. It seems there is room in the market both for the OEM and
clones as they serve different groups.

The only reason business people love patents is that in a world where patents
exist, you have an incentive to collect them. But I think the second order
negative effects of this dramatically slow innovation and harm society
economically. If Prusa can exist without patents in a market where competitors
still use them, we can obviously make functional an entire economy with less
intellectual property restrictions.

Unfortunately this is seen as arcane or obscure and nobody cares. Its a HUGE
issue that I think affects our ability to innovate broadly but I fear the
business community would be against the change we need.

My only hope is that competent and respected economists could examine this
issue. People who know China well already know how much innovation can
flourish in an open business community [2] but we need to convince the
American business community to buy in to IP reform.

[1]
[https://www.businesswire.com/news/home/20120217005877/en/Str...](https://www.businesswire.com/news/home/20120217005877/en/Stratasys-
Celebrates-10-Year-Anniversary-Industry%E2%80%99s-Low-Priced-3D)

[2]
[https://www.bunniestudios.com/blog/?p=284](https://www.bunniestudios.com/blog/?p=284)

~~~
OnlineGladiator
>The only reason business people love patents is that in a world where patents
exist, you have an incentive to collect them. But I think the second order
negative effects of this dramatically slow innovation and harm society
economically. If Prusa can exist without patents in a market where competitors
still use them, we can obviously make functional an entire economy with less
intellectual property restrictions.

You make some interesting points, however generalizing one example from 3d
printers and concluding "patents are clearly bad" is really oversimplifying
the issue by _a lot_.

There are plenty of examples of patents stifling innovation (oftentimes
purposefully, where a company buys a patent just so nobody else can use it).
There are much more complicated examples though, such as the pharmaceutical
industry. At least in the US, which funds most of the world's drug research,
the entire business incentive for developing new drugs would evaporate without
patents. Now there are lots of problems with the pharmaceutical industry,
however developing new innovative drugs (with the intent of profiting from
them, often viciously) is not one of them.

Everybody agrees the patent system is broken. The problem is nobody can
propose a better alternative.

~~~
balfirevic
> Everybody agrees the patent system is broken. The problem is nobody can
> propose a better alternative.

Here are two proposals, pick the one you like better:

1) Abolish patents completely.

2) Abolish patents, except for pharmaceutical industry.

If anything, proposal number 2 should be strictly better than the status quo.

~~~
wallacoloo
> 2) Abolish patents, except for pharmaceutical industry.

So what are the boundaries we'd place? Only companies whose primary income
source is parmaceuticals are allowed to own patents? Are all the non-pharma
companies still required to avoid patent infringement?

Or is it that patents can only exist if they're relevant to pharmaceuticals?
If so, where do you draw the border? If a pharmaceutical company comes up with
a new process for synthesizing some compound Z which they use for their drug,
is that patentable? What if it turns out that compound Z is also useful for
weather-treating surfaces, and gains widespread use in construction? Now, what
if we switch to an alternate timeline where compound Z was invented by a
construction company first, and _then_ pharma started to use it? What's the
patent situation look like?

#2 seems rather arbitrary to me, even moreso than existing patent law. I'm not
convinced it's any better than the status quo, though also it's not clear to
me exactly what you mean with it.

~~~
balfirevic
The point is that the patent system is so deeply messed up an unjust that
almost any move towards lessening the applicability of patents is a positive
one. In these conversations, someone inevitably comes up with the "but what
about the drug research" response.

To avoid any worries that the drug research will cease if drugs are no longer
patentable, the practical solution is to leave patents in place for drugs.
Drugs are regulated in million of ways already. Patent system already has
special provisions applicable only to drugs. Just craft the new intellectual
property category that will cover 95% of ways patents are now used for
pharmaceutical research and call it a day.

It doesn't have to be justified from first principles or fully cover all the
edge cases because: 1) patent system is already justified on purely
consequentialist grounds (at least in the US) 2) existing patent system
already fails basic sanity checks, let alone perfectly handling all the edge
cases.

