Wk 13 & 14 / Oligopoly

Oligopoly: Definition and classification of oligopoly

What is oligopoly?

Oligopoly is a market situation in which there are so few sellers. Each of them is aware of the results upon the price of the supply
which he individually places upon the market, and number of sellers is greater than one, yet not enough to cause nominal the
influence of anyone upon the market price. A form of imperfect competition and usually described as the competition among a
few.
The term "oligopoly" is related to economics and the market and the market controlling them. There is a significant value of
interdependence among them. Each oligopolist crafts price policies by considering that of rivals, but it does not mean they
entirely control the market. The price change of each producer influences the actions of other producers. For instance, a
reduction in the price of one producer may lead to an equal deduction by the other producers.
In oligopolistic industries, the process is typically a blend of monopolistic and competitive trends. Oligopolies can be followed in
several industries such as steel, aluminum and automobile industries. In other words, oligopoly means a market strategy consists
of several small numbers of firms. These firms or producers work explicitly to restrict output and thus control the market returns.
Classification of oligopoly markets

● Basis of product differentiation

● Pure oligopoly is also known as perfect oligopoly. This strategy has a homogeneous or identical product.
● Differentiated or imperfect. The product of different firms in the industry is not identical but rather differentiated.
Differentiated oligopoly will exist where the competing firms produce products which are close substitutes but not perfect
substitutes.

Imperfect oligopoly is also known as differentiated oligopoly. This industry has product differentiation at the end. For example,
the talcum industry.

● Open and closed

● Open - new firms can enter the market and compete with existing firms.
● Closed - entry into the market is restricted
● Collusive and competitive
● Collusive - a cooperative market strategy. This occurs when few firms come to an understanding with respect to the price
and output of the products.
● Competitive - this occurs when there is lack of understanding between the firms and they invariable compete with each
other.
● Partial or total
● Partial - occurs when one large firm dominates the industry and more powerful in the market.
● Total - no particular industry or firm dominates the market.
● Syndicated and organized
● Syndicated - firms sell their products through a centralize syndicate
● Organized - firms create a central association to fix prices, quotas, output
What are the characteristics of oligopoly

❖ Interdependence

As in an oligopoly market, the decision of one firm affects the process and working of another firm. Thus, it induces interdependence in the
network, an important feature of an oligopolistic market. In order to match the impacts, the competitor firms might change their prices and
profits. Thus, the oligopoly market is a totally interdependent network.

❖ Advertising

Advertising is the key characteristic of the oligopolistic market. The firms are considered to utilize assertive market strategies to defend the
competition in the market. Due to interdependence, it is essential for the forms to invest in the marketing and promotional activities. Thus,
advertising has a great importance in an oligopoly strategy.

❖ Variable selling price

An oligopolistic market is a factor driven market and interdependence on various factors. Therefore, the selling price of the products is
unstable and varies at different instances.

❖ Group behavior

It is designed in a way that a single firm can execute selfish behavior or profit-maximizing behavior. It automatically goes against the
fundamentals of an oligopolistic market.

❖ Entry barriers

It is difficult to entry in an oligopolistic market as it has to compete as a small start-up industry with large and economically stable firms.
Common entry barriers:

1. Exclusive resource ownership

2. Patents and copyrights
3. High start-up costs
4. Government restrictions
 ❖ Few leading firms

There are only few firms that control the entire sales and process of the market.

❖ Identical or differentiated

Oligopoly market produces both identical products and differentiated products.

Oligopoly vs monopoly

While oligopoly is the market strategy that involves a number of producers in the market. The majority of the number of
producers in oligopoly is not fixed. But generally it is maintained so that the decision and action of one industry or producer must
affect and influence the others.

Major examples of oligopoly market

Pharmaceutical industries

The most leading global market not only for drug innovation but also as price maker when it comes to drug production,
marketing and selling.

Automobile industry

The standards and prices are maintained by a generated authority making automobile sector an example of organized
oligopoly.
Other market under oligopoly:

● Media sector
● Computer technology
● Steel industry
● Petroleum industry
● Wine and beer sector
● Aircraft manufacturing
● Beverage industry
● Gold jewelry makers

The profit maximization of an oligopoly market is governed by a KInked demand curve. Oligopoly industries are more stable over
the other market as they work on cooperation. They are more beneficial in the era of economic competition.

Kinked demand theory of oligopoly

Shows high degree of interdependence that exists among the firms that make up an oligopoly. The market demand curve that
each oligopolist faces is determined by the output and price decision of the other firms in the oligopoly.

Assumption:

Each firm in an oligopoly believes the following 2 things:

A. If a firm lowers the price below the prevailing level, then the competitors will follow.
B. If a firm increases the price above the prevailing level, then the competitors will not follow him.

Example: if the one oil company increased the price there would be a shift to other oil producing company. However, if one oil
company cuts price, other firms may feel obliged to follow and also cut price - therefore a price cut would be self defeating for
the first firm.