Oligopoly Flashcards
4 Characteristics of an Oligopolistic market
Market is dominated by a few large firms ,’, high concentration ratio
Interdependence
Differentiated Products
Innocent & Artificial Barriers to Entry Barriers to Exit, Sunk Costs - Costs we cannot get back after exit e.g. marketing Interdependence - Thus ceterus paribus is often irrelevant as changes in one firm’s conditions likely chang behaviour of other firms in the market
Barriers to Entry in Oligopolies 4 Innocent Barriers to Entry, 2 Artificial Barriers to Entry
High barriers to entry due to : - EoS - Capital costs e.g. mobile phone networks. Creating a network would require huge amounts of capital
- Natural cost advantages e.g. China has largest amount of ‘rare’ materials used to make mobile phones. Thus Chinese firms have a big advantage over others in the phone industry -
Legal barriers e.g. government only grants licenses to a few TV stations These are INNOCENT BARRIERS TO ENTRY. Meaning they arise without deliberate intent from existing firms
ARTIFICIAL BARRIERS TO ENTRY to entry: - Limit pricing. Firms may set prices below the short-run profit maximisation point to deter new entrances e.g. Sports Direct
- Marketing barriers. Existing firms spend huge amounts on marketing that can be spread over output (marketing costs per unit is low). e.g. Supermarkets
Oligopoly Diagram
In an Oligopoly, we use a Kinked Demand Curve, as a reduction in price by one leading firm will cause others to follow suit.
Above P1, the curve is elastic, below it is inelastic.
MR must be twice as steep as AR.
See 7Micro dIAGRAM pOSTER bACK
3 Types of Price Competition + Eval.
Price Wars - A price war will drive prices down to levels where firms are frequently making losses. In the short term, firms will continue to produce if their AVC is below AR but in the long run, they will leave the market and prices will have to rise since supply falls. e.g. Supermarket Industry
Predatory Pricing - When the established firm sets such a low price that others cannot make a profit and so are driven out of the market. This is illegal and only works if the established firm is large enough to withstand sustained losses
Limit Pricing - To prevent new entrances firms will set prices low. High enough to still make normal profits, but they miss out on potential earnings
Cons - Miss out on potential earnings, can make huge losses. E.g. US Airline price wars of 1992 resulted in record air travel but also record losses. Estimates suggest total industry losses in 1992 exceeded all profits since the industries inception
4 Non-price competition & its issues
Advertising - Can make demand for a product more inelastic in LR and increases awareness of the brand
Loyalty rewards - Loyalty cards v common in supermarkets, encourages repeat purchases & also gives firms on data on consumer spending habits which they can use to alter strategy and increase revenue
Branding - Encourages repeat business and makes it easier for a firm to bring out new products
Customer Service - Gives firm good reputation and also repeat business
Quality - Being known for quality may make demand more inelastic, allowing higher prices to be set in LR.
Issues of non-price competition - Expensive thus requires capital. No guarantee of success
Efficiency in an Oligopoly
statically inefficient as not allocatively or productively efficient
Likely to be dynamically efficient as make supernormal profits so can invest. However some may choose to share profits with shareholders or not invest (depending on market state)
Collusion def. & Types
Collusion is a non-competitive, secret, and sometimes illegal agreement between rivals which attempts to disrupt the market’s equilibrium. It involves two people/firms who would usually compete against one another, conspiring with one another to gain an unfair competitive advantage
Overt collusion - When firms agree formally to set prices at a certain level (CARTEL)
Tacit Collusion - Where firms now that competing is not in their best interests, but there is no formal agreement to refrain from doing so
Shutdown Point Diagram
