Oligopolies Flashcards
Oligopoly
Few firms dominate the market and have majority market share
Four Characteristics of Oligopoly
- Products are differentiated
- High concentration ratio of supply
- Firms are interdependent so become collusive and competitive
- Barriers to entry
What does high concentration ratio of supply mean
Supply in the industry is concentrated in a small number of firms
What is the demand curve like in oligopolies
Kinked
Why is the kinked demand curve normally sloped to begin with in oligopolies
The D curve to begin with is elastic because if a firm increases their price other firms won’t follow because they will become the cheaper alternative so a small increase in price will have a large effect on demand
Why does the Kinked demand curve slope more steeply after the kink in oligopolies
It becomes inelastic because this is the point that a firm may decrease price, if this happens others will follow to remain competitive so there is a very small effect on demand when there is a small price change
Where is P1 or where does price start on the oligopoly diagram
At the demand/AR curve kink
What is the Kinked Demand curve successful in explaining
Why prices are relatively stable in oligopolies
Why don’t changes in demand or cost have an effect on price in oligopolies
Because the firms can’t change price to accommodate costs and demand changes due to the fact that increasing price is detrimental for them as customers will go to cheaper alternatives.
What is the problem with the kinked demand curve in oligopolies
It assumes an initial price set in the market
What happens to MR in a kinked demand curve
There is a gap at the kink
Calculation for n firms concentration ratios
Total sales of n firms / total size of market X 100
collusion
When firms make a collective agreement that will reduce competition
What are the advantages of collusion
- Instead of competing against each other firms work together so can set higher prices and maximise profits
- reduces uncertainty firms face
- Increases firms market knowledge
- Firms don’t have to engage in advertisement or competitive price cutting which impacts profits
Disadvantages of collusion
- Illegal so risk of punishment
- Relies on complete trust in other firm which is impossible
- May impact a firms own good business model that could profit alone
When does collusion work best and so is most likely
- Firms have similar costs and production methods and are open about them
- Few firms in the market with high barriers to entry
- Brand loyalty so customers will remain with each firm
- One dominant firm that others will follow
Overt Collusion
Formal Agreement to collude
Tacit Collusion
No Formal Agreement to collude
Cartel
Formal collusive agreement in which group of firms will mutually set prices to keep them high, rules will be laid out in a formal document with legal punishments for those who break them
What are the two ways a cartel could operate collusively
- Agree on a price for the goods and then compete freely using non price competition
- Agree to divide up the market share equally
What is the primary problem with a cartel
The more successful the cartel is the bigger the temptation to break it and the firm who breaks it first will be better off
What are the examples of tacit collusion
- Price leadership
- barometric Firm
- unwritten rules about advertising or stealing customers
Price leadership
One firm may become dominant due to size or costs, this will mean other firms will follow its example as to not start price war, so dominant firm gets to decide the price
Barometric Firm
One firm may have a reputation for being good at predicting the next move in the industry, so other firms will follow this one allowing them to set the price