Oligopoly

Chapter 16
 Imperfect Competition

Imperfect competition includes

industries in which firms have
competitors but do not face so much
competition that they are price
takers.
Types of Imperfectly Competitive
Markets
Oligopoly
 Only a few sellers, each offering a similar
or identical product to the others.
Monopolistic Competition
 Many firms selling products that are
similar but not identical.
 Characteristics of an Oligopoly
Market

Few sellers offering similar or identical

products
Interdependent firms
They are best off cooperating and acting
like a monopolist by producing a small
quantity of output and charging a price
above marginal cost.
 Markets With Only a Few Sellers

Because of there being few sellers, the key

features of oligopoly are the
interdependence between firms and the
resulting tension between cooperation and
self-interest.
A Duopoly Example: Demand
Schedule for Water
Quantity Price Total Revenue
0 $120 $ 0
10 110 1,100
20 100 2,000
30 90 2,700
40 80 3,200
50 70 3,500
60 60 3,600
70 50 3,500
80 40 3,200
90 30 2,700
100 20 2,000
110 10 1,100
120 0 0
 A Duopoly Example: Price and
Quantity Supplied

The socially efficient quantity of water is

120 gallons, but a monopolist would produce
only 60 gallons of water.
So what outcome then could be expected
from duopolists?
Competition, Monopolies, and Cartels
The duopolists may agree on a
monopoly outcome.
Collusion
The two firms may agree on the quantity to
produce and the price to charge.
Cartel
The two firms may join together and act in
unison.
 Jack’s TR, MR and profit
Joint given Jill’s expected output
market decisions Case 1 Case 2
demand making Jill sells 30 units Jill sells 40 units
Jack’s Jack’s Jack’s Jack’s Jack’s Jack’s
P Q TR MR residual TR MR residual TR MR
demand demand
120 0 0 0 0 0 0
110 10 1100 110 0 0 0 0
100 20 2000 90 0 0 0 0
90 30 2700 70 0 0 0 0
80 40 3200 50 10 800 80 0 0
70 50 3500 30 20 1400 60 10 700 70
60 60 3600 10 30 1800 40 20 1200 50
50 70 3500 -10 40 2000 20 30 1500 30
40 80 3200 -30 50 2000 0 40 1600 10
30 90 2700 -50 60 1800 -20 50 1500 -10
20 100 2000 -70 70 1400 -40 60 1200 -30
10 110 1100 -90 80 800 -60 70 700 -50
0 120 0 -110 90 0 -80 80 0 -70

To simplify the analysis, suppose that each producer must make

ten unit increments in output produced.
 Jill’s TR, MR and profit
Joint given Jill’s expected output
market decisions Case 1 Case 2
demand making Jack sells 30 units Jack sells 40 units
Jill’s Jill’s Jill’s Jill’s Jill’s Jill’s
P Q TR MR residual TR MR residual TR MR
demand demand
120 0 0 0 0 0 0
110 10 1100 110 0 0 0 0
100 20 2000 90 0 0 0 0
90 30 2700 70 0 0 0 0
80 40 3200 50 10 800 80 0 0
70 50 3500 30 20 1400 60 10 700 70
60 60 3600 10 30 1800 40 20 1200 50
50 70 3500 -10 40 2000 20 30 1500 30
40 80 3200 -30 50 2000 0 40 1600 10
30 90 2700 -50 60 1800 -20 50 1500 -10
20 100 2000 -70 70 1400 -40 60 1200 -30
10 110 1100 -90 80 800 -60 70 700 -50
0 120 0 -110 90 0 -80 80 0 -70
 The Equilibrium for an Oligopoly
A Nash equilibrium is a situation in
which economic actors, interacting with
one another but making uncoordinated
choices, each chooses its best strategy
given the strategies that all the others
have chosen.

In the above example, each producing 40 units is a

Nash Equilibrium.
 Pay-off matrix
Jill’s quantity choice
40 units 30 units
Jack’s 40 Jack $2,000
quantity units $1,600 each Jill $1,500
choice 30 Jack $1,500
units Jill $2,000 $1,800 each

This is an example of the prisoners’ dilemma; the individuals

are unable to coordinate their decisions but the payoff each
receives depends upon the choices made by both.

In general, game theory is the study of how people behave in

strategic situations (i.e., situations in which decisionmakers
must consider how others might respond.
A dominant strategy is one that is best for a player
in a game regardless of the strategies chosen by
the other players.
Pay-off matrix
Jill’s quantity choice
40 units 30 units
Jack’s 40 Jack $2,000
quantity units $1,600 each Jill $1,500
choice 30 Jack $1,500
units Jill $2,000 $1,800 each

In this example, Jack and Jill each selling 40

units is the Nash equilibrium.
 Summary of Equilibrium for an
Oligopoly
Possible outcome if oligopoly firms pursue
their own self-interests:
 Joint output is greater than the monopoly
quantity but less than the competitive industry
quantity.
 Market prices are lower than monopoly price
but greater than competitive price.
 Total profits are less than the monopoly profit.
Market
demand Q0 = 30 Jill's
Jill's
P Q TR MR P residual TR MR
demand
65 55 $3,575 11 65 25 $1,625 51
64 56 $3,584 9 64 26 $1,664 39
63 57 $3,591 7 63 27 $1,701 37
62 58 $3,596 5 62 28 $1,736 35
61 59 $3,599 3 61 29 $1,769 33
60 60 $3,600 1 60 30 $1,800 31
59 61 $3,599 -1 59 31 $1,829 29
58 62 $3,596 -3 58 32 $1,856 27
57 63 $3,591 -5 57 33 $1,881 25
56 64 $3,584 -7 56 34 $1,904 23
55 65 $3,575 -9 55 35 $1,925 21
54 66 $3,564 -11 54 36 $1,944 19