Transcript Tacit collusion

Microeconomics in Modules
and
Economics in Modules
Third Edition
Krugman/Wells
Module 33
Oligopoly in Practice
What You Will Learn
1
The legal constraints of antitrust policy
2
The factors that limit tacit collusion
3
The cause and effect of price wars,
product differentiation, price leadership,
and nonprice competition
4
The importance of oligopoly in the real
world
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Oligopoly in Practice
• Oligopolies operate under legal restrictions in
the form of antitrust policy.
• Antitrust policies are efforts undertaken by the
government to prevent oligopolies from
becoming or behaving like monopolies.
• But many achieve tacit collusion.
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Oligopoly in Practice
• Tacit collusion is limited by a number of
factors:
– Large numbers of firms
– Complex products and pricing schemes
– Bargaining power of buyers
– Conflicts of interest among firms
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Tacit Collusion and Price Wars
• Real industries often realize it is in their best
interest to keep their prices above the
noncooperative level.
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Tacit Collusion and Price Wars
• A variety of factors make it hard for an
industry to coordinate on high prices:
– The more firms, the less incentive to behave
cooperatively.
– Complex pricing schemes and complex products
make monitoring other firms difficult.
– Firms often differ in their perceptions of what is
fair or in their best interests.
– Large buyers can bargain for lower prices.
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Tacit Collusion and Price Wars
• Because tacit collusion is often hard to
achieve, most oligopolists charge prices that
are far below what they would charge if they
could collude explicitly.
• Sometimes tacit collusion breaks down and
aggressive price competition amounts to a
price war.
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Economics in Action
The Price Wars of Christmas
• During the last several seasons, toy retailers have
engaged in cutthroat competition, driving some
retailers to bankruptcy.
• The causes include preferences that have changed
from toys to video games and the Internet.
• New entrants, such as Walmart and Target, reduce
the future payoff from collusion.
• Retailers depend on holiday sales for nearly half of
their annual sales.
• In an effort to expand sales and undercut rivals,
retailers have begun slashing prices earlier in the
season.
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Product Differentiation and
Price Leadership
• To limit competition, oligopolists often engage
in product differentiation.
• Product differentiation can be an attempt by a
firm to convince buyers that its product is
different from the products of other firms in
the industry.
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Product Differentiation and
Price Leadership
• When products are differentiated, it is
sometimes possible for an industry to achieve
tacit collusion through price leadership.
• Oligopolists often avoid competing directly on
price by engaging in nonprice competition
through advertising and through other means.
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Product Differentiation and
Price Leadership
• In price leadership, one firm sets its price first,
and other firms follow.
• Firms that have a tacit understanding not to
compete on price often engage in intense
nonprice competition, using advertising and
other means to try to increase their sales.
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How Important Is Oligopoly?
• Oligopoly is far more common than either
perfect competition or monopoly.
• Predictions from the supply and demand model
are often valid for oligopoly.
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How Important Is Oligopoly?
• Is the model of perfect competition still
useful?
• Yes. Important parts of the economy are fairly
well explained by the perfect competition
model.
• The analysis of oligopoly is far more difficult
than that of perfect competition.
• Economists like to use the assumption of
perfect competition.
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Summary
1. To limit the ability of oligopolists to collude and act like
monopolists, most governments pursue an antitrust policy
designed to make collusion difficult.
2. In practice, however, tacit collusion is widespread.
3. A variety of factors make tacit collusion difficult: large
numbers of firms, complex products and pricing,
differences in interests, and bargaining power of buyers.
4. When tacit collusion breaks down, there is a price war.
5. Oligopolists try to avoid price wars in various ways, such
as through product differentiation and price leadership,
in which one firm sets prices for the industry. Another is
through nonprice competition, such as advertising.
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