APRIL 2014
SpotNomics
MONTHLY NEWSLETTER
Department of Economics
Editor: Dr. E. Azzopardi
Contributor: Mr Andrew Brincat
This Issue
Great Economic Thinkers
Oligioploy
Examination Success
Oligopoly—Q & A
Great
Economic
Thinkers
Oligopoly
Oligopoly is a market structure that is dominated by a few large firms. In such an
industry there is a high level of market concentration. It is one of the models of imperfect competition and is sometimes referred to as small group imperfect competition.
Markets that can be described as oligopolies include banking and insurance services, soft drinks, and telephony services. In the Maltese market, for example, Vodafone, and Go have significant market power in the communications industry. In
the global market Nike and Adidas form part of a footwear oligopoly, while CocaCola and Pepsi are soft drinks competitors.
The extreme case of oligopoly is a duopolistic market structure, or duopoly, This
market structure is made up of two, practically similar firms, sharing the market
more or less equally between themselves.
When firms in an oligopolistic market renounce competition and collude, a cartel
may be formed where the market effectively becomes a monopoly.
Joan Robinson
British economist Joan Robinson
was born in 1903. Although she was
nominated on 1975 for the Nobel
Prize, she did not win it, probably
because she expressed too much
admiration for Mao Tse Tung’s
China and Kim Il Sung’s North Korea.
At the beginning of her career Joan
Robinson focused upon building on
neoclassical theory. In her famous
book “The Economics of Imperfect
Competition”, written in 1933, she
introduced the theory of imperfect
competition. . This theory is still
taught in economics textbooks.
Later she switched her focus to
Keynes’ General Theory. and wrote
about Marx seriously as an economist. In 1956 Joan Robinson published her magnum opus "The Accumulation of Capital".
Joan Robinson is quoted as saying
"the purpose of studying economics
is not to acquire a set of ready-made
answers to economic questions, but
to learn how to avoid being deceived by economists." Robinson
died in 1983, aged 80.
Examination Success
Answering Questions about Oligopoly
•
Make sure you understand the differences monopolistic competition and oligopoly as both are types of imperfectly competitive markets.
•
As a large scale producer, oligopolists usually have a large and divisible fixed
factor in the short run which leads to saucer-shaped AVC and MC curves.
•
Unless otherwise stated or observed, oligopoly involves competition primarily, not collusion among firms.
•
Make sure you understand the concepts of price stickiness, interdependence
and the importance of non-price competition.
•
When there is collusion among oligopolists, this may take the form not only of
cartels (open or hidden agreements) but collusion may also be tacit as in the
case of price leadership.
Oligopoly—Q & A
What are the characteristics of oligopoly?
There is no single theory of price and output under oligopoly. There are in fact a number of theories that try to explain oligopolistic behaviour. The kinked demand curve, with a number of theoretical reservations, attempts to explain price rigidity or price
stickiness as the result of interdependence. The saucer-shaped theory tries to explain price rigidity in view of short term changes
in demand. Game theory is also used to analyze strategies to determine the optimal course of action depending on assumptions
about rivals’ behaviour. Some of the main features exhibited by oligopolistic market structures include:
Price stickiness— the reluctance of firms to raise or lower price in the face of changing circumstances.
Interdependence— this means that the decisions of one firm are dependent on the perceived reactions of the other firm or
firms.
Non-price competition— the use of factors other than price to compete with rivals in the industry. This may take the form of
heavy advertising, sponsorships, use of location, product branding, product proliferation. Many oligopolists fight for market
share in order to fulfill their profit motives.
Product proliferation—the introduction of different varieties and brands of the same type of product or related product to appeal to different and changing buyer preferences with the intention of retaining custom and not lose it to competing firms.
Barriers to entry: entry barriers maintain supernormal profits for the dominant firms. It is possible for many smaller firms to
operate on the periphery of an oligopolistic market, but none of them is large enough to have any significant effect on prices and
output
What is collusive oligopoly?
Does oligopoly serve the public interest?
Collusion in a market or industry may occur of the following
features are present:
• There are only a small number of firms in the industry and
there are significant barriers to prevent new firms entering
the industry
• Market demand is not too variable (or cyclical) i.e. it is
reasonably predictable and not subject to violent fluctuations which may lead to excess demand or excess supply.
• Demand is fairly inelastic with respect to price so that a
higher cartel price increases the total revenue to suppliers –
this is easier when the product is viewed as a necessity.
• Each firm’s output can be easily monitored. This enables
the cartel more easily to control total supply and identify
firms who are cheating on output quotas.
• Incomplete information about motivation of other firms
may induce tacit collusion.
It is very difficult to draw any general conclusions about oligopolistic behaviour since oligopolists differ so much in their
performance.
Collusion may take the form of a cartel, a group of firms acting
as one. Usually this may take the form of overt (open) collusion
or covert (hidden) collusion and usually involves price fixing.
Tacit collusion occurs where firms undertake actions that are
likely to minimise a competitive response, for example, avoiding price cutting or not attacking each other’s market . Tacit
collusion may take to form of:
If oligopolists act collusively, they bring the same disadvantages to the market as in monopoly. Moreover, there may be
less scope for economies of scale and may be likely to engage in more extensive advertising.
However, these disadvantages may be mitigated (lessened) if
oligopolists do not collude, if there is some price competition
and if barriers to entry are weak, making the market more
contestable.
The power of oligopolists may also be weakened if buyers
have some degree of market power. This is known as countervailing power, and may be present in intermediate markets
but very difficult to find in consumer markets.
On the other hand, oligopolists may use part of their supernormal profits for research and development, especially if
they compete on innovative, differentiated and quality products. Consumers may benefit also from the firms’ motive to
defend or grow market share, and from increased choice from
product proliferation.
Dominant price leadership— firms follow the example set by
the dominant firm and choose to set the same price set by the
leaser.
Barometric firm price leadership— the price leaser is that
firm whose prices are believed to reflect the prevailing market
conditions in the most satisfactory way.
Rules of thumb—certain pricing standards may be adopted
which may not necessarily result in immediate profits, but serve
to curb competition leading to future profits.
Sources for this newsletter:
www.tutor2u.com
www.econlib.org
www.britannica.com
Sloman, J. Economics 7th Edition, Prentice Hall, 2009
taramillermicroeconomics.wordpress.com