OLIGOPOLY LECTURE 11
Oligopoly p p p 1. 2. 3. 4. 5. Oligopoly Definition Concentration ratios The competitive spectrum The kinked demand curve Administered prices
1. Oligopoly Definition p p p An oligopoly is an industry with just a few sellers. Is the product identical or differentiated? It doesn't matter. The crucial factor under oligopoly is the small number of firms in the industry. Because there are so few firms, every competitor must think continually about the actions of his rivals, since what each does could make or break him. Thus there is a kind of interdependence among oligopolists.
p Because the graph of the oligopolist is similar to that of the monopolist, we will analyze it in exactly the same manner with respect to price, output, profit, and efficiency. Price is higher than the minimum point of the ATC curve, and output is somewhat to the left of this point. And so, just like the monopolist, the oligopolist has a higher price and a lower output than the perfect competitor.
p The oligopolist, like the monopolist and unlike the perfect competitor, makes a profit. With respect to efficiency, since the oligopolist does not produce at the minimum point of its ATC, it is not as efficient as the perfect competitor.
2. Concentration ratios p p One way of measuring how concentrated an industry is, is to look at the percentage share of sales of the leading firms. This is called the industry's concentration ratio. Economists use concentration ratios as a quantitative measure of oligopoly. The total percentage share of industry sales of the four leading firms is the industry concentration ratio. Industries with high ratios are very oligopolistic.
A second way is to calculate the Herfindahl -Hirschman index, which, it turns out, is a lot easier to do than to say. p The Herfindahl-Hirschman Index (HHI). The Herfindahl-Hirschman index (HHI) is the sum of the squares of the market shares of each firm in the industry. p
3. The Competitive Spectrum Cartel p An extreme case of oligopoly is a cartel, where the firms behave as a monopoly in a manner similar to that of the Organization of Petroleum Exporting Countries (OPEC) in the world oil market.
Open Collusion. p Slightly less extreme than a cartel would be a territorial division of the market among the firms in the industry. p This would be a division similar to that of the Mafia, if indeed there really is such an organization. An oligopolistic division of the market might go something like this.
This cozy arrangement would give each operation a regional monopoly. On a national basis, each operation's market situation is depicted by Figure 2.
These are extreme cases, but they would be illegal, even during the last few years of less-than-stringent enforcement of the antitrust laws. p Now, as we move to somewhat less extreme cases of collusion, we begin to enter the real of reality. This brings us to the celebrated electric machinery conspiracy case. p
Price Leadership 1. The cigarette industry provided another instance of price leadership. 2. Another form of price leadership is the setting of the prime rate of interest by the nation's leading banks.
p Whatever the degree of collusion, it would be hard for firms in oligopolized industries to ignore each other's actions and anticipated reactions with respect to price and output.
The Competitive Spectrum Cartel Open collusion Covert collusion Price leadership Weak competition Strong competition Cutthroat competition
4. The Kinked Demand Curve Now we deal with the extreme case of oligopolists who are cutthroat competitors, firms that do not exchange so much as a knowing wink. p Each is out to maximize its profits. These oligopolists are ready to cut the throats of their competitors, figuratively speaking, of course. p
The kinked demand curve
5. Administered Prices p Administered prices are set by large corporations for relatively long periods of time, without responding to the normal market forces, mainly, changes in demand.
Administered prices are peculiar to oligopoly. p Perfect competitors and monopolistic competitors would be too small to dictate price. Monopolists would change their output and price in response to changes in demand to maximize their profits. p But under competitive oligopoly, the firms would rarely shift output or price because they would continue to maximize profit as long as MC was within the range of MR. p
p Thus, administered prices can occur only under oligopoly and are most likely under very competitive oligopoly. But oligopoly is the dominant type of competition in American industry, though many would question just how competitive our oligopolies are.