3.4.4 Oligopoly Flashcards
How is an oligopoly characterised ?
1) few large sellers
2) high barriers
3) differentiated goods
4) interdependence
Explain the first two characteristics of an oligopoly
1) For instance, in the fizzy drinks market Pepsi and Coca Cola dominated the fizzy drinks market.
2) the high barriers including the companies brand loyalty to their company make it impossible for firms to copmete.
Another barrier to entry is the huge sunk costs. For instance, millions spent on advertising and the R and D of new recipe. New firms will see this as a high cost of failure and deter them from joining
Explain the last two chracteristics of an oligopoly
3) all goods must be similar but slightly diferent.
4) One firm actions can directly affect another firm
Why is it that in corner shops prices of fizzy drinks are similar ?
This is because fizzy drinks market is oligopolistic and interdependent. One firm’s actions will directly affect the other
What does an oligopolistic firm need to do when setting its price ?
they need to think about their competitors behaviour and price their competitors will set the price at
How do economist choose what price firms should set their good at ?
game theory
How do you draw out the game theory ?
First you draw out the two firm’s strategies being high price and low price.
pay off from left firm represents the left firm and vie versa.
What is the inevitability of price wars ?
Both firms will have incentives to try to undercut with lower prices and bring price down. Make little profit
What does collusion mean ?
This is when 2 or more firms agree to limit competition (normally through prices to avoid price wars)
What are the two types of collusion ?
Overt and tacit collusion
What is overt collusion ?
This is when there is a formal agreement between firms. Two firms communicate with each other
Who have made overt collusion illegal ?
The CMA. the competition and markets authority. They do not like it because it avoids competition and keeps prices high. This overt collusion would be kept hidden to avoid fines
What is tacit collusion ?
This is when there is unspoken agreement between firms
Why would firms both keep prices the same ?
they know if they reduce prices this will start a price war and lose profits, An increase in price will also lose customers
What are the three types of price competition ?
Price wars, predatory pricing, limit pricing
What are price wars ?
This is when firms try to undercut each other with lower prices to try and gain each others customers. This is dangerous as supernormal profit will go down
What is predatory pricing ?
This is when a firm aggresively cuts its price below AVC to force out competitors. Setting price below AVC, below its short run point will make a loss in the short run. In the long run however they get rid of competitiion and brings prices back up
What is limit pricing ?
This is when an incumbent firm sets prices low enough so other firms would not be able to enter. They can use economies of scale to keep costs and prices low. Acts as a barrier to entry
What are the 4 types of non price competition ?
Adveritising, loyalty cards, branding, quality
Explain the first 2 types of non price competition
Advertising can help steal competitors customers without changing prices. For example advertising new features the other does not have
Loyalty cards can entice customers with their cards. Keeps loyal customers with free goods
Explain the last 2 types of non price competitive
Firms will use a certain trademark as a strong brand for their companies. for example, nike tick
Firms compete on quality of goods. Invest in Research and development increasing dynamic efficiency and improve product quality
