Oligopoly Market

1
 Price and Output Determination Under Oligopoly

Oligopoly is defined as the market structure in which

there are a few sellers selling a homogeneous or
differentiated products.

Selling homogeneous products pure oligopoly.

Example : industries producing cement, steel, petrol,
cooking gas, chemicals, aluminium and sugar.

Selling differentiated products differentiated oligopoly.

Examples: Automobiles, TV sets, soft drinks, computers,
cigarettes etc.
2
Differentiated
Oligopoly
 Duopoly
(where
there are
two sellers)
FEATURES
Few Sellers.
Ability to set price.
Homogeneous or distinctive product.
Blockaded entry or exit.
Interdependence.
Constant struggle.
Price rigidity.
The Kinked Demand Curve
A business in an oligopoly faces a downward sloping demand
curve but the price elasticity of demand may depend on the
likely reaction of rivals to changes in one firms price and
output
(a) Rivals are assumed not to follow a price increase by
one firm, so the acting firm will lose market share - therefore
demand will be relatively elastic and a rise in price will lead to
less revenue
(b) Rivals are assumed to be likely to match a price fall by
one firm to avoid a loss of market share. If this happens
demand will be more inelastic and a fall in price will also lead
to a fall in total revenue
The Kinked Demand Curve

Elastic
D K

Price
Inelastic
D
0 x

Quantity
KINKED DEMAND CURVE
Increase price = elastic
Decrease price = inelastic
Raising price above P: Likely
reaction of other firms is to hold their
prices
This will cause an elastic demand
response for this firm
Results in lost sales and falling total
revenue
Cutting price below P the likely
reaction of other firms is to follow
the price reduction. Demand likely to
be relatively inelastic little benefit in
terms of extra sales and total revenue
Price & output determination: if costs shift up
slightly, but MC still intersects MR in the
vertical segment, there will be no
change in price.
y
MC This price rigidity
MC is seen in real world
oligopoly markets.
Price

D
0 x
MR
Quantity
Kinked Demand Curve Overview
On oligopoly firms have price-setting
power but may be reluctant to use it

Rivals unlikely to match a price rise and

rivals likely to match a price fall

If a firm is settled on one price, there may

e little point in changing it

Even if costs change we often see price

rigidity / stability in an oligopoly

This increases the importance attached to

non-price competition
Price determination Oligopoly
Association of businesses or countries
Cartel that collude to influence production
levels and thus the market price.
Takes place when rival companies cooperate
Collusion for their mutual benefit. Firms sell outputs at
such agreed prices as fixed by the cartel.
If product is homogenous , in oligopoly ,
pricing by individual firms is not definite. If
Independent pricing
differentiated product , firm enjoys some
monopoly power
When one firm has a dominant position and
Price leadership firms with lower market shares follow the
price changes of the leader
 COLLUSIVE OLIGOPOLY

In collusive oligopoly, firms are assumed to act in unison that is in

collusion (knowledge or approval or agreement) with one another; this
assumption is based on empirical facts, rather than being
conjectural(hypothetical or imaginary).
Or
Refers to the oligopoly market in which the oligopolistic firms make joint-
pricing and output decisions where by the firms agreed to have a uniform
price-output policy to be pursued by competition among themselves.

WHY COLLUSION?
It reduces the degree of competition between the firms and help them act
monopolistically in their effort of profit maximization
It forms a kind of barrier to the entry of new firms.
It reduces oligopolistic uncertainty surrounding the market since in the
cartel members are not supposed to act independently and in a manner
that is detrimental(harmful or disadvantageous) to the interest of other
firms.
 CARTELS
Cartel is a type of collusive oligopoly, firms jointly
fix a price and output policy through agreements.

Joint Profit Maximization Cartel : In this the firms producing

homogeneous products surrender their price and output decisions to a
centralized cartel board in the industry
The individual firms surrender their price & output decisions to this
board . Board determines output quota for the firms, the price to be
charged and distribution of industry profits.
The central board thus acts as a single monopolist to maximise the
joint profits of the oligopolistic industry.
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 Difficulties of Price Leadership

Difficulties of Price Leadership: The following are the

challenges faced by a price leader:

(a)It is difficult for a price leader to correctly assess the reactions of

his followers.
(b)The rival firms may secretly charge lower prices when they find
that the leader charged unduly high prices. Such price cutting
devices are rebates, favorable credit terms, money back guarantees,
after delivery free services, easy installment sales, etc.
(c)The rivals may indulge in non-price competition. Such non-
price competition devices are heavy advertisement and sales
promotion.
(d)The high price set by the price leader may also attract new
entrants into the industry and these new entrants may not accept
his leadership.