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External Economies of Scale - did you spot any on your travels?

Jonny Clark

24th August 2017

I was very fortunate this summer to have spent a couple of weeks staying at my brother's house in San Jose, California. He's lived there for nearly 30 years but this was only my second visit to his home and the first for 20 years. Like anywhere, the area in which he lives has changed a lot but it did occur to me as we travelled around that there is an incredible amount of very well-known tech companies in the vicinity of his home.

As we drove down Interstate 101 I was struck by all the familiar place names. There was Cupertino (home of Apple), Sunnyvale (Yahoo), San Bruno (Youtube), Menlo Park (Facebook), San Jose itself (ebay and Adobe), San Francisco (Twitter and Uber) and the Google campus at Mountain View (where the whole town is connected by the same wifi system).

Of course, this wasn't a huge surprise. My brother reminded me that the area is known as Silicon Valley not because of all of the software companies listed above but more because it was the centre of the physical technological boom 30 years ago that saw the computer manufacturing giants locate there.

It got me thinking, though - what created such a huge hub of businesses within a relatively small geographical area? The answer was that wonderful term 'external economies of scale' (now specifically mentioned in A level specifications, of course). The businesses locate near one another for all sorts of reasons, all of which eventually lead to a reduction in unit costs. For a superb reminder of external economies look no further than Geoff's study notes here.

The very road network I travelled on was the one of the few that has been funded by the Federal Government despite existing within a single state (the term 'Interstate' noted the Federal budget but didn't pass over the Californian border) and helped support the industries - central government recognising the value of creating a hub to attract business from all around the world. The local universities train and support the workers (Stanford and Caltech are both ranked in the top 10 universities in the world). Skills learned are transferable, offering easily interchangeable job opportunities in a small area (helping to attract some of the best technology minds in the world) and the whole Californian philosophy promotes creative thinking and encourages entrepreneurial risk. The good weather helps!

I thought that it might be an interesting task to set your students as they arrive back from their holidays. Where did they go this summer? Can they identify any industrial hubs that might have existed in that area (beyond the obvious tourism that may have attracted their families in the first place) and if so can they find out what attracts those businesses to the area?

I've returned home now, living a stones-throw away from the Potteries area in North Staffordshire - an area whose very name actually derives from the industry that took advantage of the specific type of clay and flint found in the nearby soil and then used the skills and expertise learned to become a major world centre for pottery manufacturing.

Jonny Clark

Jon Clark has been teaching economics and business studies for over 25 years primarily in the Further Education sector. Before joining tutor2u, he was a senior manager at South Cheshire College in Crewe.

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