Economics Discussion – Banks and Economies of Scale Paper

Assignment:

 

Write about why you think that the diseconomies of scale present in the large banks has not lead to smaller and more nimbler banks to gain market share and force the banks to divest and become smaller. 

 

The paper should be a minimum half a page with single spacing. Remember there are multiple right answers.

 

 

Hint:  Look into lobbying efforts by the banks (rent-seeking), lower interest rates when big banks borrow versus community banks, government support, etc.

 

Preface:

 

The long run average cost curve displays that the cost per unit for a firm moves in a U shaped curve with costs per unit starting at a higher point with lower output and gradually moving downward as output increases, giving the firm economies of scale as it moves down the curve, with cost per unit slowly rising after output rises past the constant average cost portion of the curve, giving the firm diseconomies of scale due to the fact that as output increases new machinery, managers, and workers need to be employed to handle the increase in size of the firm, which adds layers of bureaucracy and complexity that makes the firm less efficient. Economic logic would dictate as firms experience diseconomies of scale they would lose market share and be forced to downsize or go out of business from nimbler and more efficient firms with lower prices.  You can see this happen in a wide variety of examples, case in point, General Motors, which lost market share to its much more efficient Japanese counterpart Toyota.  But strangely, the big banks in the United States, one could argue that they are so large and are currently experiencing diseconomies of scale–as evidenced by their failure to properly see that there practices during the housing bubble would lead to their demise.  In fact, one could argue that because the big banks are even larger now due to consolidation during the financial crisis, that they are even less efficient than before. Presented is a graph to help you visualize the long run average cost curve, which is also in chapter 7 of the textbook.

 

 

I have attached a doc with the graph mentioned.