Transcript Oligopoly
Imperfect Competition
Shades of Gray between
Perfect Competition
and Monopoly
Microeconomics - Dr. Dennis Foster
The Spectrum of Competition
Firms are primarily distinguished from each other
by the degree of competition they face:
Perfect
Competition
Monopoly
Monopolistic
Competition
Contestable
Markets
Oligopoly
Game Theory
Cartels
Contestable Markets
There may be many firms …
-- but, probably only a few.
This market appears to be an oligopoly …
-- but, there aren’t significant barriers to entry.
In the long run, price must equal marginal cost …
-- so, firms are allocatively efficient.
In the long run, price must equal average cost …
-- so, firms only earn a “normal” profit.
Examples – Airlines, wine production …
Monopolistic Competition
Market structure when there are:
many firms,
no barriers to entry,
each produces a “differentiated product.”
Examples: Restaurants, Convenience stores, Barbers
Differentiation may be by location!
Substitutes are not perfect.
Advertising may contribute.
Monopolistic Competition
Characteristics and Consequences
Many sellers & easy entry
- Can only earn economic profit in SR.
- In LR, must earn only normal profit.
Sells differentiated products
- Faces a downward sloping demand.
- Can raise price without losing all customers.
Monopolistic Competition
price
MC
P*
ATC
P**
ATC*
d
d**
MR**
quantity
q** q *
MR
While economic profits may be earned in the short run,
the entry of new firms will compete them away.
Monopolistic Competition & Efficiency
Allocatively inefficient?
- Yes, since demand slopes down, P>MC.
Productively inefficient?
- Yes!!! Must be. [Excess Capacity Theorem]
Social waste of resources?
- No, as there are no econ profits to protect.
X-inefficiency?
- Unlikely, due to competition.
Oligopoly
Market structure where:
(i) there are a few dominant firms
Price
MC
D2
(ii) there are high barriers to entry
P*
D1
quantity
Q*
MR
OligOpOly …
characteristics
Few sellers
- face downward sloping demand,
- actions are interdependent.
Homogeneous or differentiated products
- steel, oil, concrete, diamonds
- cigarettes, cereal, tires, soap
Barriers to entry
- can earn economic profit in long run.
OligOpOly …
barriers to entry
Control of resource
Scale economies
Brand proliferation
Legal barriers
Deterrence strategies
- price wars
- switching costs
- game theory
OligOpOly …
models of behavior
Graphical
analyses
Kinked Demand
Price Leader
Cartel Model
Entry-limit Pricing
Contestable Markets
Game Theory
Descriptive
analyses
Oligopoly – Kinked Demand
Price
MC
D2
P*
D1
Presumes excess capacity
quantity
Q*
MR
- Others follow price reduction.
- Nobody follows price increase.
Price rigidity in the face of changing costs
Oligopoly – Other Models
Price Leader
- One firm sets the price; others follow.
- To be enforceable, this firm should
dominate the market (Saudi Arabia).
- Sometimes it is just by convention (Ford).
Entry-limit pricing
- Firms set price so any new entrant will
force price down below ATC.
- This is a barrier to entry.
Contestable Markets
Oligopoly - Efficiency
Allocatively inefficient?
- Yes, since demand slopes down, P>MC.
Productively inefficient?
- It is not certain, but likely.
Social waste of resources?
- Yes, as there are likely to be economic
profits to protect.
X-inefficiency?
- Yes, especially if the market is regulated.
Oligopoly – Cartel Model
Price
P**
MC
ATC
P*
demand
MR
Firms collude
Q**
Q*
quantity
- Try to act as if it were a monopoly.
- Must increase excess capacity – incentive to cheat.
BOAPW – Be the only one not to join!
Oligopoly – Cartel Model
Free rider problem.
- Non members get advantage of higher price
without having to control output.
Raising profits encourages entry!
- OPEC and . . . Mexico/North Sea/Alaska
There must be few substitutes.
- A cartel for coffee?
Must be able to deter cheating by members.
- Libya and oil; Iran & Iraq and oil.
- Diamonds (DeBeers) and distribution/stocks
Game Theory
Models of oligopoly behavior
based on the characteristic of
Read Chapter 24
for more on
Game Theory.
interdependence.
Cooperative vs. Noncooperative
Dominant strategy
Sequential games
Games with Nash equilibrium
Game Theory
First-mover game
Last-mover game
Chicken game
Prisoner’s Dilemma
Game Theory
The Prisoners’ Dilemma
Should Bud and Miller advertise
during the Super Bowl?
Bud
Advertise
Don't Advertise
Miller
Advertise
$100
Don't Advertise $50
$100
$200
$200
$50
$150
$150
The best outcome (for them) is . . .
But, each has the same “best” strategy . . .
How can these firms overcome the PD?
The Spectrum of Competition
Firms are primarily distinguished from each other
by the degree of competition they face:
Perfect
Competition
Monopoly
Monopolistic
Competition
Contestable
Markets
Oligopoly
Game Theory
Cartels
Imperfect Competition
Shades of Gray between
Perfect Competition
and Monopoly
Microeconomics - Dr. Dennis Foster