Oligoply

Question 1

What are the characteristics of an oligopoly ?

Answer 1

-A small number of firms dominate the industry
-firms act inderdependantly
-Barriers to entry, and exit are common
-Knwoeldege and infromation is often imperfect
-Price rigidity - prices tend to change less than in more competitive market structures
1)collusive oligopoly has no direct competition
2)non collusive oligopoly has non price competition

Question 2

What does a collusive oligopoly mean ?

Answer 2

Where a few firms in an industry act together to avoid competition by resorting to collective agreements muscular has fixing prices or output
A formal agreement like this is called a cartel

Question 3

What is meant by a non collusive oligopoly mean ?

Answer 3

Where firms in an industry do not resort to agreements to fix price or output. Competition between firms tend to be non-price; prices tend to be stable in a non collusive oligopoly

Question 4

What are the two types of collusive behaviour ?

Answer 4

1) formal collusion - often called a cartel. There is an agreement between firs on price and/or output with the intention of maximising their joint profits
2) tacit collusion - is where firms charge the same prices, or maintain the same market share without an agreement to do so. Tacit collusion is any situation occurring when a firms refrain from competing, without communication or formal agreement between them

Question 5

Diagram showing a collusive oligopoly in the long run

Answer 5

Question 6

Assessing efficiency in the long run for an oligopoly?

Answer 6

In the long run earning a supernormal profit
At this position:
-P>MC therefore allocative efficiency is not achieved
-AC>MC therefore productive efficiency is also not achieved

Question 7

Assessing efficiency in the short run for an oligopoly?

Answer 7

In the short run the firms make a supernormal profit:
-P>MC therefore allocative efficiency is not achieved
-AC>MC therefore productive efficiency is not achieved

Question 8

Why is there an underlying incentive for members of a cartel to break an agreement ?

Answer 8

-if a cartel member sells at a lower price than the cartel price the firm will benefit from an increase in sales/market share/profit
(Link to game theory and payoff tables)
- if costs structures of member firms are different there may be an incentive for the firm that can produce most efficiently (at the lowest AC) to break the agreement and result in that firm taking over market control
however, as information is often imperfect it is difficult to evaluate the costs structures of other firms

Question 9

What conditions does a cartel become difficult to maintain?

Answer 9

1.cost difference between firms- it is likely that the firms will have different cost structure. This makes it difficult to agree upon a price and output
2.number of firms in the cartel agreement -this increases the likelihood of an agreement being broken
3.the market shared enjoyed by the cartel - the smaller the market share the grater the incentive to leave as the benefits of the membership are not significant enough
4. Priority to survive during a recession - firms are more likely in a recession to lower prices and break agreement
5.potential entry to the market - supernormal profits will attract firms to the industry
6.the lack of a dominant firm - a cartel is often led by a dominant producer. If no such dominant firm exists then it can be difficult to maintain agreements
7.the objectives of firms in the cartel may have changed

Question 10

Diagram and explanation for a non collusive oligopoly showing the kinked demand curve

Answer 10

1. If the firm reduces price below P1, rivals will reduce their prices. The firm may only gain a small increase in market share, temporarily, as other forms lower price to compete
2. If the firm increases price above P1, rivals will not increase their prices. The firm will lose market share to rivals and the firms experiences far more elastic demand for their product
   The cost structure of the firms can vary, without the profit maximising output changing. This helps to explain why there may be significant price rigidity, a change in cost is unlikely to lead to a change in the price by the firm

Question 11

Why doers price rigidity actually occur in a non collusive oligopoly?

Answer 11

1. The individual firm does not increase price as they expect rival firms to not increase prices in response. This firm would expect to lower share of industry, sales,revenue and profit to rival firms if they make the decision to increase prices
2. Lowering prices causes rival firms to also lower prices. Their is no advantage thought quantity sold should increase, supernormal profit for the firm and the wider industry reduces.
   3.if costs rise, or fall, MC is likely to still equal MR at Q1. The firm seeking to maximise profits will not change price, due to the expected competitive decisions of the other firm.

Question 12

What non price competition is there in an oligopoly?

Answer 12

-branding, packaging, special features, advertising, bundles, sales promotions
- there may be an incentive for firms to spend more on advertising and marketing to develop brand loyalty, to reduce the price elasticity of demand for the firms products relative to those sold by other firms. Firms must also serve to enforce the barriers to entry to new firms

Question 13

Assessing efficiency for a non collusive oligopoly short run

Answer 13

Question 14

Assessing efficiency for a non collusive oligopoly long run

Answer 14

Question 15

Assessing efficiency for the industry in a non collusive oligopoly ?

Answer 15

Question 16

What does concentration ratio mean ?

Answer 16

Measure the combined market share of the largest n firms in the industry. For example the 3 firm concentration ratio measures the combined market share of those three firms