Chapter 12 Monopolistic Competition



Chapter 17 Oligopoly

1. Market Structure

(a) Few sellers ( this gives the ability of market participants to collude or engage in synergistic behavior. It also allows for intense competition.

(b) Homogenous or differentiated product. The more closely aligned the products are the less market power. Just as we have discussed before.

(c) Difficult Entry – can have regulation, ownership of a vital resources, or most commonly in this type of market economies of scale that restrict the entry of other firms.

2. Mutual Interdependence – due to the few number of seller firms react very strongly to the decisions of other firms. This property makes an oligopoly market much different from all the other markets. In other markets there is less of a focus on other firms and their decisions and more on internal activity.

3. Ways in Which Oligopoly Markets choose P and Q (i.e. profit max)

-in oligopoly markets we have very different theories of how they behave and profit maximize. For this market we float between intense competition to monopolistic characteristics. Depending on the characteristics of individual oligopoly markets, we get some that look more like PC and other that look more like monopolies and monopolistic competition.

a. Non-price Competition – when firms don’t compete on price, but they compete in

advertising and new products. In this type of oligopoly market marketing is very important.

Ex: a good example of this type of market might be the home improvement market (i.e. Lowe’s and Home Depot with other smaller regional competitors)

b. Kinked Demand Curve – assumes that firms match price decreases but ignore price increases. So very elastic for increases and inelastic for decreases.

Graphically:

Note:

(1) Given that we have inelastic portions above and elastic portions below, both of which would reduce TR (see elasticity and TR in CH6) there is no incentive for firms to move away from E.

(2) There are problems with this theory due to the fact that:

-it is uncertain how a firm would arrive at E initially

-there is a lack of evidence in oligopoly markets there is price ‘stickiness’ ( i.e. that it doesn’t change which this model implies

c. Price Leadership – when the dominant firm in the market sets the price and other firms in the industry follow. A firm needs to be a dominant firm in this instance otherwise the firm would not expect to sell anything if the price was not followed and undercut by other firms in the market.

Ex: Some examples of this are Alcoa for aluminum Goodyear for tires.

d. Cartel – when a group of sellers formally aggress to control price and output. In the US this is illegal and is called price collusion. Problems with cartels are that they are generally loose arrangements and can break up easily. When they do this they generally earn monopoly like profits for as long as the agreement is maintained.

Ex. OPEC

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Flatter ( inelastic

E to A: Firms would lose a lot of sales since it is very inelastic. So, there is no incentive to really increase price.

E to C: Firms would lose a lot of sales since it is very elastic. So, there is no incentive to drop price.

P

A E

C

Q

steeper ( elastic

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