Chapter 17: Oligopoly

Rjabec Viktoria
Economics I.
Seminar group number 5
1084 words
When economists talk about imperfectly competetive market, they are talking about a market
structure where there are few sellers who have significant dominance in their industry,
meaning they have control over the prices. It mainly has two types, including Monopolistic
Competetion and Oligopoly. Here, firms have varying degrees of market power. In this essay
im going to give an inlook of how an oligopoly is constructed and how does it work.

Firstly, an oligopoly is a market structure in which there are only a few sellers, who are
offering similar or identical products as other competitors on the market. The actions of one
firm, such as change in the price or startegy, can have a susbtantial impact on the others.
Interdependence is one of the key elements, because this is where self-interest and
cooperation have the highest tension. This is why each firm should cautiously consider their,
and their competitors action, when making important business decesions. In order to
maximize profit, oligopolies should act as monopolies, because they only care about their
own well-being, so what would be beneficial to them, is charging a price above the marginal
cost and produce a small quantity of output.

Secondly, there is a type of oligopoly called Duopoly. This is a simple market stucture
consisting of two dominant firms, who are in control of the majority of the market share.
They can decide whether they collaborate or compete. Here, their actions have a significant
impact on prices, and the overall dynamics that charactirizes the market. To give an example,
such a duopolistic market is Visa and Mastercard, these two companies have global control
over credit card transactions.

Another few key features to mention, which can be optional for an oligopoly, is a so called
collusion. This refers to an agreement between firms that are in the same market, to
coordinate their actions, usually for mutual benefit. These kinds of engagements are usually
based on setting prices, production quantities and the dividing of market shares. However,
collusion in many jurisdictions can be considered illegal as it undermines fair competetion,
and can be challenging for authorities to detect. This is why policy makers use so called
antitrust laws, in order to prevent and penalize collusion for the ensurance of fair competetion
and the protection of consumers. As an addition to this, a cartel is what we call a group of
firms who act in a unison.

There is also a theory called ‘Game theory’ this is mainly used to analyze strategic
interactions between firms in oligopoly.Firms make a usage of this to know the potential
reaction of their competitors when they take an action. A Nash equilibrium is a part of this. It
is a situation, where each party in a strategic interation makes the best decision, while taking
into account the others. Basically neither of the participants have an incentive to change their
strategy, but to use the on that has already been given by the other competitors. This
represents the stable state, and once reached, players have no motivation to deviate from their
strategies, which equals to a self-enforcing outcome. As an opposition to this, there is a
strategy that can be used by firms which is called “ dominant strategy”. This is considered the
best, as it gives the most beneficial outcomes for a competitor, because they choose what is
the best for them, not taking into consideration the other firms choosen strategies.

In order for oligopolies to reach the behavior of monopolies, they need to cooperate. This can
become hard to maintain, because problems always arise, according to certain circumstances.
Another part of the game theory that should be mentioned, is the “prisoners’dilemma”. The
role of this is mainly for us to give an insight why working together with other firms can
become hard overtime, and what actions should be taken in order to maintain equal benefit.

Thirdly, the size of the oligopoly itself can also affect market outcomes. Lets say, that there
are no antitrust laws or any sort of cartel that limits an oligopoly. They have to make decision
on their own, when making these the owner needs to consider two effects. The output effect,
meaning that the set price is above the marginal cost, so if selling one more unit of that
product at the set price will raise profit. The second one is the price effect, here if they raise
production and it will increase the total amount of sold units it can lower the price of the
good, which results in lower profit from all the other units sold. So if the output effect is
greater than the price effect, then the owner will decide to increase production. If it is the
other way around, then the owners decision will be not to increase production. If the number
of participants in an oligopoly raises, it will represents a competetive market. The more
sellers there are the impact of the price effect falls, and as the number of parties increase the
effect completely disappear.

Last but not least, there are some barriers that may occur when a firms decides to entry and
oligopoly. It is hard for them to be able to compete with the already existing participants,
which results in high startup costs, the access to distribution channels can become hard. As
well as the establishment of brand loyalty may face difficulties.
To conclude, oligopolies represent a market stucture of small number of dominant firms who
each have a significant impact and influence on the market. Even if competetion is limited,
they try to cooperate with different strategic decisions and market dynamics. As I have
previously mentioned, to maximize profit oligopolies should choose to behave as
monopolies, but as the number of the competitors indulging in the market is rising, as well as
their self-interest is in main focus it leads them to competetion. Policy makers are there to
control, regulate and watch over the behavior of oligopolies, for the sake of maintaining fair
competetion and economics well-being of not only consumers but also all the competitors of
the market. They use the tools of their substantial power for this, but these laws that they use
is still under debate whether it is properly used, and the fixing of price is actually beneficial.
Not to mention, the behavior of key players can have profound effects on both the specific
industry and consumers who decide to take part.