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number of sellers (oligopolists). The word is derived from the Greek for few (entities with
the right to) sell. Because there are few participants in this type of market, each
oligopolist is aware of the actions of the others. The decisions of one firm influence, and
are influenced by the decisions of other firms. Strategic planning by oligopolists always
involves taking into account the likely responses of the other market participants. This
causes oligopolistic markets and industries to be at the highest risk for collusion.
Contents
[hide]
• 1 Description
• 2 Demand curve
• 3 Oligopsonies
• 4 Examples
• 5 References
• 6 See also
• 7 External links
[edit] Description
Oligopoly is a common market form. As a quantitative description of oligopoly, the four-
firm concentration ratio is often utilized. This measure expresses the market share of the
four largest firms in an industry as a percentage. Using this measure, an oligopoly is
defined [by whom?] as a market in which the four-firm concentration ratio is above 40%.[citation
needed]
Oligopolistic competition can give rise to a wide range of different outcomes. In some
situations, the firms may collude to raise prices and restrict production in the same way as
a monopoly. Where there is a formal agreement for such collusion, this is known as a
cartel.
Firms often collude in an attempt to stabilise unstable markets, so as to reduce the risks
inherent in these markets for investment and product development. There are legal
restrictions on such collusion in most countries. There does not have to be a formal
agreement for collusion to take place (although for the act to be illegal there must be a
real communication between companies) - for example, in some industries, there may be
an acknowledged market leader which informally sets prices to which other producers
respond, known as price leadership.
The welfare analysis of oligopolies suffers, thus, from a sensitivity to the exact
specifications used to define the market's structure. In particular, the level of deadweight
loss is hard to measure. The study of product differentiation indicates oligopolies might
also create excessive levels of differentiation in order to stifle competition.
Oligopoly theory makes heavy use of game theory to model the behaviour of oligopolies:
• Stackelberg's duopoly. In this model the firms move sequentially (see Stackelberg
competition).
• Cournot's duopoly. In this model the firms simultaneously choose quantities (see
Cournot competition).
• Bertrand's oligopoly. In this model the firms simultaneously choose prices (see
Bertrand competition).
Above the kink, demand is relatively elastic because all other firm’s prices remain
unchanged. Below the kink, demand is relatively inelastic because all other firms will
introduce a similar price cut, eventually leading to a price war. Therefore, the best option
for the oligopolist is to produce at point E which is the equilibrium point and the kink
point.
In an oligopoly, firms operate under imperfect competition and a kinked demand curve
which reflects inelasticity below market price and elasticity above market price, the
product or service firms offer, are differentiated and barriers to entry are strong.
Following from the fierce price competitiveness created by this sticky-upward demand
curve, firms utilize non-price competition in order to accrue greater revenue and market
share.
"Kinked" demand curves are similar to traditional demand curves, as they are downward-
sloping. They are distinguished by a hypothesized convex bend with a discontinuity at the
bend - the "kink." Therefore, the first derivative at that point is undefined and leads to a
jump discontinuity in the marginal revenue curve.
Classical economic theory assumes that a profit-maximizing producer with some market
power (either due to oligopoly or monopolistic competition) will set marginal costs equal
to marginal revenue. This idea can be envisioned graphically by the intersection of an
upward-sloping marginal cost curve and a downward-sloping marginal revenue curve
(because the more one sells, the lower the price must be, so the less a producer earns per
unit). In classical theory, any change in the marginal cost structure (how much it costs to
make each additional unit) or the marginal revenue structure (how much people will pay
for each additional unit) will be immediately reflected in a new price and/or quantity sold
of the item. This result does not occur if a "kink" exists. Because of this jump
discontinuity in the marginal revenue curve, marginal costs could change without
necessarily changing the price or quantity.
The motivation behind this kink is the idea that in an oligopolistic or monopolistically
competitive market, firms will not raise their prices because even a small price increase
will lose many customers. This is because competitors will generally ignore price
increases, with the hope of gaining a larger market share as a result of now having
comparatively lower prices. However, even a large price decrease will gain only a few
customers because such an action will begin a price war with other firms. The curve is
therefore more price-elastic for price increases and less so for price decreases. Firms will
often enter the industry in the long run.
[edit] Oligopsonies
Oligopsony is a market form in which the number of buyers is small while the number of
sellers in theory could be large. This typically happens in markets for inputs where a
small number of firms are competing to obtain factors of production. This also involves
strategic interactions but of a different nature than when competing in the output market
to sell a final output. Oligopoly refers to the market for output while oligopsony refers to
the market where these firms are the buyers and not sellers (eg. a factor market). A
market with a few sellers (oligopoly) and a few buyers (oligopsony) is referred to as a
bilateral oligopoly.
[edit] Examples
In the United Kingdom, the four-firm concentration ratio of the supermarket industry is
74.4% (2006)[1]; the British brewing industry has a staggering 85% ratio. In the U.S.A.,
oligopolistic industries include the oil, beer, tobacco, accounting and audit services,
aircraft, military equipment, and motor vehicle industries.
Many media industries today are essentially oligopolies. Six movie studios receive 90
percent of American film revenues, and four major music companies receive 80 percent
of recording revenues. There are just six major book publishers, and the television
industry was an oligopoly of three networks- ABC, CBS, and NBC-from the 1950s
through the 1970s. Television has diversified since then, especially because of cable, but
today it is still mostly an oligopoly (due to concentration of media ownership) of five
companies: Disney/ABC, CBS Corporation, NBC Universal, Time Warner, and News
Corporation.[2]
In industrialized countries oligopolies are found in many sectors of the economy, such as
cars, auditing, consumer goods, and steel production. Unprecedented levels of
competition, fueled by increasing globalisation, have resulted in the emergence of
oligopoly in many market sectors, such as the aerospace industry. Market shares in
oligopoly are typically determined on the basis of product development and advertising.
There are now only a small number of manufacturers of civil passenger aircraft, though
Brazil (Embraer) and Canada (Bombardier) have fielded entries into the smaller-market
passenger aircraft market sector. A further instance arises in a heavily regulated market
such as wireless communications. In some cases states have licensed only two or three
providers of cellular phone services.
A further example are the 3 leading food processing companies, Kraft, PepsiCo and
Nestle. Together these three corporations account for a large percentage of overall global
processed food sales. These three companies are often used as an example of "The rule of
3"[3], which states that markets and industries often become dominated by three major
oligopolistic firms.
Australia has two very good examples of oligoplies. One is its media outlets, mostly
owned by either News Corporation or Fairfax Media. Likewise, Australia's retailing
industry is dominated by two companies, Coles-Myer and Woolworths.
Between the definitions of perfect competition and pure monopoly lie oligopolies and
monopolistic competition. An oligopoly is where there are a few sellers with similar or
identical products, such as hockey skates (Bauer, CCM). Monopolistic competition has
many companies with similar but not identical products. Each firm has monopoly power
over what it produces, but products are close substitutes, such as cigarettes, CDs, and
computer games. Examples of oligopolies include crude oil businesses and auto
manufacturers.
The main key to behaviour in an oligopoly, is that companies must take into account what
other companies will do. In perfect competition, firms are price-takers and can ignore
other firms. In a monopoly, there is only one firm, and it does not take into account what
competitors will do. Oligopolists are torn between:
I. Introduction
A. An oligopoly market exists when barriers to entry result in a few mutually
dependent companies controlling a
substantial portion of a market.
1. Products may be homogeneous or differentiated.
2. Examples include many industrial products such as steel and large consumer
durables such as appliances.
3. Automobile, steel, and other oligopolistic industries lost monopoly power
because of the foreign invasion
beginning in the 1970's.
a. Eventually American companies became more competitive.
b. The price was lower real wages for manufacturing workers.
B Three well-defined pricing models exist
1. Kinked demand
2. Collusive pricing
3. Price leadership
Oligopoly theory makes heavy use of game theory to model the behavior of oligopolies:
• Stackelberg's duopoly. In this model the firms move sequentially (see Stackelberg
competition).
• Cournot's duopoly. In this model the firms simultaneously choose quantities (see
Cournot competition).
• Bertrand's oligopoly. In this model the firms simultaneously choose prices (see
Bertrand competition).
• Monopolistic competition. A market structure in which several or many sellers
each produce similar, but slightly differentiated products. Each producer can set
its price and quantity without affecting the marketplace as a whole.