Oligopoly Flashcards
What are the main characteristics of oligopolistic markets
Small number of large firms
Barriers to entry exist
Firms are interdependent (actions affect eachother and they are aware of others’ behaviour). There is fear that firms will engage in price wars
What are the implications of interdependence
Strategic behaviour - forecasting other firms actions is important in business planning as their choices affect what is rational for your firm to do
Conflicting incentives - firms could choose to collude to co-ordinate pricing decisions or to compete to capture market share
What do concentration ratios describe
The share of total market output being produced by the top x number of firms
How can oligopolistic markets be characterised
Price and non price competition,
Price leadership
Collusion
Price wars
How does price competition work in oligopoly
Prices can often be rigid without collusion. See kinked demand curve.
If one firm raises prices, the other firms won’t follow their lead and consumers will buy from the other firms, so they are price elastic.
If one firm lowers prices, the other firms lower prices to maintain market share, so below profit max price demand is inelastic
What are some alternative forms of price competition
Predatory pricing - discourage new firms
Limited pricing - pricing by incumbent firms to deter entry or expansion of fringe firms, below short run profit max price but not loss making.
Price wars - when goods are weakly branded firms might fight for market share by slashing prices to undercut rivals
How does non- price competition work
Differentiate products, as firms have large profits allowing for investment into non-price product differentiation as price wars can be very harmful
How does collusion work in oligopoly
Commonly via:
1. Price fixing agreements
2. Price raising agreements
3. Non- compete agreements (won’t compete in a certain location)
What are the two types of collusion and how do they work
Tacit - an implied understanding between firms, often via price leadership, where a dominant firm sets prices and initiates price changes. Retaining firms in the sector are price takers
Formal/explicit - member firms in a cartel may agree to fix prices, quantity etc. it’s illegal.
What are the costs of oligopoly
Allocatively inefficient because when profit max, you aren’t producing at the point where MB = MC
Productively inefficient as it’s not possible for the lowest ATC to be profit max
X- inefficiency may occur, but less likely than monopoly
Higher prices and lower quant than more competitive markets, bad for C.S.
Risk of collusion, especially with technology making it easy to compare prices
Benefits of oligopoly
Profit making so able to reinvest profits (dynamically efficient) to lower ATC.
Can reinvest and produce better quality goods that consumers want
Can experience EoS as they can buy in bulk due to dynamic efficiency
What is a Nash equilibrium
When each party is making the optimal choice given the others choice
What is a dominant strategy
An optimal choice for each player, irrespective of what the other player does
