Collusive oligopoly Flashcards
Define collusive oligopoly
- firms agree informally/formally
- cooperate and limit competition
- reduce uncertainty
- maximise firms’ joint profits
- act collectively like a monopoly
- avoid price wars – might make firms worse off
- fix prices, allocate output quotas
Collusive oligopoly example
- OPEC+ agree to meet at beginning of each month
- discuss adjustments of pdtn vol
- avoid price war % Saudi Arabia (biggest member) and Russia
Factors that facilitate collusion
- small no. of firms
- similar product
- high barriers to entry
- clear leader (e.g. Saudi Arabia)
- stable market
Small no. of firms
easier to arrive at a consensus
Similar product
similar COP
High barriers to entry
- harder for non-member firms to join and lower px
Stable mkt
- dd and pdtn cost fluctuate wildly
- difficult to predict and make agreements (have to be frequently amended)
- declining mkt – tempted to defect and lower px
Types of collusive oligopoly
- Cartel (formal/open)
- Price leadership model (informal/tacit)
Define cartel
- formal collusive agreement
- made by number of firms
- maximise joint profits, limit comp
- behave like a monopoly
- agree on common px that is profitable for all
- cannot sell below agreed px
Profit-maximization by price-fixing cartel
- draw diagram
- MC curve = sum of all MC curves
- profit-maximising output = 0Q1
- need to divide industry outpt
- based on historical mkt shares
- or agree to compete (pdt differentiation, advertising)
-ve of cartels
- inherently unstable
- strong incentive to produce beyond quota, take advantage of high px
- causes px to fall; lower profits
- illegal in most countries due to anti-competitive behavior
- harm consumers’ interests (pay higher px)
Factors that make cartels difficult to establish and mantain
- incentive to cheat
- possibility of px war
- cost diff % firms
- diff dd curves
Incentive to cheat (Establishment and maintenance of cartels)
- secretly lower px for some buyers
- cheat – increase mkt share and profit
- at expense of other firms
- discovered – likely to collapse
Possibility of px war (Establishment and maintenance of cartels)
- possible outcome of cheating
- one firm’s px cut matched by retaliatory price cuts frm other forms
- make firms collectively worse off
- lower px, lower profits
- e.g. 2020 price war (OPEC)
Cost diff % firms (Establishing and maintenance of cartels)
- ideal: MC=MR – max profit
- each firm has diff cost curves
- those with higher average cost – lower profits (vice versa)
- difficult to agree on px and output quota
Diff dd curve (Establishment and maintenance of cartels)
- diff mkt shares
- pdt differentiation
- more differentiated – greater diff btwn dd curves
- difficult to agree on px
Price leadership model (informal collusion)
- co-operation that is implicit/understood % firms
- coordinate px behavior w/o formal agreement
- one dominant firm (most cost-efficient) act as leader, set px, others are price-takers
Tactics in price leadership model
- infrequent px changes
- limit pricing
Infrequent px changes (Px leadership model tactics)
- px increases – risky, no guarantee that others will follow
- leaders might lose substantial share
- px changes only initiated if whole industry faces sig changes in cost/dd conditions
Limit pricing (Px leadership model tactics)
- leader choose to set a px that doesnt max SR profits for industry
- below firms’ SR profit-maximizing px
- limit px to protect LR profits frm damage frm comp
