What Does 'Economies Of Scale' Mean, And Why Is It Important To Cars?

Economies of scale is a fairly simple concept, but it’s a key player in how manufacturers build cars that don’t cost the consumer a small fortune to buy. The basic principle is that larger companies can reduce the cost of each individual unit it produces by spreading the cost across a larger output.

One of the first examples of this was at Ford in 1913. Before then, individual employees would each work on a car to order, making the manufacturing process slow. Henry T. Ford came up with the idea of placing each employee in one assigned place, and giving them one job to do. Chassis were then dragged along the factory floor, stopping at each worker, who then undertook their assigned role. This sped up the manufacturing process drastically, meaning more cars were able to be sold.

Now that Ford was selling more cars, it could drop the price to make a smaller profit on each individual car but a bigger profit overall. This had the added bonus of making the car more affordable to more people, driving more orders, more sales, and more profits.

Economies of scale continues to be a vital aspect of vehicle manufacture, and modern car manufacturers’ use of platform sharing is a great example of that. By creating underpinnings that can be used across multiple cars, they save on the cost of building individual platforms with unique parts.

Volvo is a great example of this with its new Scalable Product Architecture that’ll underpin all of its new cars, and was debuted in the new XC90. Volvo’s SPA is actually quite fascinating, as its commitment to sharing parts across the range means that all of its engines will be four-pots, and all diesels and petrols will be built off the same base. Fewer unique parts required equals costs reduced.

Probably the best known example of this is by Volkswagen Group, and in particular its MQB platform which underpins everything from the Skoda Octavia to the Volkswagen Touran and even the Audi TT. VAG has the added bonus of having this platform run across a number of different brands, allowing it to charge less for Skoda cars on the platform, while charging more for premium vehicles like the Audi TT, all without spending more on its platform. Cheeky. But clever.

Tesla is also employing economies of scale in order to make the Model 3 affordable to people like you and I. So far it has built low volume, premium cars like the Roadster and Model S; because they’re built in low numbers, the associated costs are higher. (This is why Tesla has focused on premium vehicles first, as it can charge more to offset the cost of building each car.)

Tesla recently announced that the Model 3 would go into production in about two years, specifically when its massive Gigafactory is finished. This factory is a massive facility in the Nevada desert that will allow Tesla to build 500,000 cars a year by 2020. Once it’s in full swing, Tesla alone will produce more lithium ion batteries annually than were produced worldwide in 2013. It expects to reduce the per kilowatt hour cost of producing its battery packs by 30 per cent, in part thanks to economies of scale. Multiply that sort of saving across the production of the car, and that’s why the Model 3 will start at around $35,000, around $20k less than an entry-level Model S.

Naturally there are numerous intricate details that go into the cost of a car, but economies of scale is a vital starting point for manufacturers building cars for the masses.