The trade-off between production and transportation costs in determining optimal plant size

Abstract

An important element of manufacturing strategy is to decide on the shipping radius and the size of a geographically focused plant. This decision involves a trade-off between exploiting economies of scale in production by building a large plant and decreasing transportation costs by building a small plant. The paper presents a model for analysing this trade-off. It is shown that scale economies in transportation facilitate the exploitation of production economies of scale. For an optimal sized plant, the ratio of transportation to production costs does not depend on the absolute cost levels in production and transportation, but only the economies of scale present in production and in transportation.