Page 1
Theory of Oligopoly 1
Institute of Lifelong Learning, University of Delhi
Subject: Microeconomics
Lesson:Theory of Oligopoly
Lesson Developer: Bidyadhar Majhi
College/ Department:Shyamlal College, University of Delhi
Page 2
Theory of Oligopoly 1
Institute of Lifelong Learning, University of Delhi
Subject: Microeconomics
Lesson:Theory of Oligopoly
Lesson Developer: Bidyadhar Majhi
College/ Department:Shyamlal College, University of Delhi
Theory of Oligopoly 2
Institute of Lifelong Learning, University of Delhi
Contents
1. Learning Outcomes
2. Introduction
3. Forms of Oligopoly
4. Features of Oligopoly
5. Causes of Emergence of Oligopoly
6. Cooperative And Competitive Behaviour Under Oligopoly
7. Price And Output Determination Under Oligopoly
7.1 Price Rigidities under Oligopoly - Kinked Demand Curve Model of Sweezy
7.2 Cournot Duopoly Model
8. Application of Game Theory to Oligopoly
9. Regulation Of Oligopoly
10. Review Points
11. Questions for Practice
12. Suggested Readings
1. Learning Outcomes
The objective of the present chapter is to acquaint the readers about:
? The meaning and definition of oligopoly market
? Different forms of oligopoly
? Features of oligopoly market
? Causes of emergence of oligopoly
? Cooperative and competitive behaviour under oligopoly
? Price and output determination under oligopoly
? Price rigidities under oligopoly - kinked demand curve model of Sweezy
? Cournot model
? Application of game theory to oligopoly
? Prisoners dilemma
? Regulation of oligopoly
2. Introduction
In previous few chapters we discussed about two forms of market that is perfect
competition and imperfect competition including monopoly and monopolistic
competition. In fact, perfect competition and monopoly are two extreme forms of
market which are hardly seen in real life. Of course, the monopolistic competition
is a real life market situation where elements of both the perfect competition and
monopoly co-exists; firms compete with each other in the market because of
substitute nature of the products produced by them and enjoys monopoly power
because of brand name associated with their own products. However, in the present
chapter our focus is to highlight another real life market situation known as
‘oligopoly’.
Page 3
Theory of Oligopoly 1
Institute of Lifelong Learning, University of Delhi
Subject: Microeconomics
Lesson:Theory of Oligopoly
Lesson Developer: Bidyadhar Majhi
College/ Department:Shyamlal College, University of Delhi
Theory of Oligopoly 2
Institute of Lifelong Learning, University of Delhi
Contents
1. Learning Outcomes
2. Introduction
3. Forms of Oligopoly
4. Features of Oligopoly
5. Causes of Emergence of Oligopoly
6. Cooperative And Competitive Behaviour Under Oligopoly
7. Price And Output Determination Under Oligopoly
7.1 Price Rigidities under Oligopoly - Kinked Demand Curve Model of Sweezy
7.2 Cournot Duopoly Model
8. Application of Game Theory to Oligopoly
9. Regulation Of Oligopoly
10. Review Points
11. Questions for Practice
12. Suggested Readings
1. Learning Outcomes
The objective of the present chapter is to acquaint the readers about:
? The meaning and definition of oligopoly market
? Different forms of oligopoly
? Features of oligopoly market
? Causes of emergence of oligopoly
? Cooperative and competitive behaviour under oligopoly
? Price and output determination under oligopoly
? Price rigidities under oligopoly - kinked demand curve model of Sweezy
? Cournot model
? Application of game theory to oligopoly
? Prisoners dilemma
? Regulation of oligopoly
2. Introduction
In previous few chapters we discussed about two forms of market that is perfect
competition and imperfect competition including monopoly and monopolistic
competition. In fact, perfect competition and monopoly are two extreme forms of
market which are hardly seen in real life. Of course, the monopolistic competition
is a real life market situation where elements of both the perfect competition and
monopoly co-exists; firms compete with each other in the market because of
substitute nature of the products produced by them and enjoys monopoly power
because of brand name associated with their own products. However, in the present
chapter our focus is to highlight another real life market situation known as
‘oligopoly’.
Theory of Oligopoly 3
Institute of Lifelong Learning, University of Delhi
Oligopoly is a form of market wherein the number of sellers of a
product are very few, may be two or few more. In case the
number of sellers in the market is just two then such form of
market is called ‘duopoly’. In case of oligopoly, firms have market
power to set price of their products however, due to existence of
inter-firm rivalry firms cannot decide the market demand of their
products and therefore the market demand curve. An oligopoly
market is characterized by either product differentiation or
product homogeneity and high degree of interdependence among
the competitors. In this form of market price and output decision of a firm may be
dependent on its competitors or may be independent. Because of the presence of
few firms in the industry each firm know that its competitors will respond quickly in
either way to any move by it on price and output change. Therefore, a prudent firm
while taking price output decision must take into consideration the possible reactions
of its rival firms. High market concentration i.e., proportion of total market share
control by a given number of firms, is another prime feature of an oligopoly market.
Economists often believe that if an industry is characterized by high concentration
ratio it is an oligopoly market.
Thus, an oligopoly market is dominated by a small numbers of large firms and there
exist fierce competition among them. There may be many small firms operate in an
oligopoly market. In case products produced by the firms in an oligopoly market is
homogenous, it is referred as pure oligopoly like steel producers in India and if
firms produce differentiated product it is a case of impure oligopoly like market for
cars.
Note the Fundamental Difference between Oligopoly and Monopolistic Competition
The fundamental difference between an oligopoly market and monopolist competitive market is that
under monopolistic competition there are large number of firms produces differentiated products
whereas under oligopoly a few firms, may even two in case of duopoly, produces products which
may be homogeneous or differentiated.
3. Forms of Oligopoly
Based on the nature of product produced, entry condition, collusion among the
firms, etc., oligopoly may be classified differently. Following are the different forms
of oligopoly:
i) Pure/Perfect and Imperfect/Differentiated Oligopoly: This classification
has been made on the basis of the nature of product produced under oligopoly.
In pure oligopoly firm produces homogeneous products whereas in case of
differentiated oligopoly products produced by the firms are different but are
close substitute to each other. Steel, tyre, petroleum oil, cement industries,
airline industry etc., in India are the examples of pure oligopoly whereas soft
Concentration
Ratio
It is the
proportion of total
market share
control by a given
number of firms in
an oligopoly
market.
Page 4
Theory of Oligopoly 1
Institute of Lifelong Learning, University of Delhi
Subject: Microeconomics
Lesson:Theory of Oligopoly
Lesson Developer: Bidyadhar Majhi
College/ Department:Shyamlal College, University of Delhi
Theory of Oligopoly 2
Institute of Lifelong Learning, University of Delhi
Contents
1. Learning Outcomes
2. Introduction
3. Forms of Oligopoly
4. Features of Oligopoly
5. Causes of Emergence of Oligopoly
6. Cooperative And Competitive Behaviour Under Oligopoly
7. Price And Output Determination Under Oligopoly
7.1 Price Rigidities under Oligopoly - Kinked Demand Curve Model of Sweezy
7.2 Cournot Duopoly Model
8. Application of Game Theory to Oligopoly
9. Regulation Of Oligopoly
10. Review Points
11. Questions for Practice
12. Suggested Readings
1. Learning Outcomes
The objective of the present chapter is to acquaint the readers about:
? The meaning and definition of oligopoly market
? Different forms of oligopoly
? Features of oligopoly market
? Causes of emergence of oligopoly
? Cooperative and competitive behaviour under oligopoly
? Price and output determination under oligopoly
? Price rigidities under oligopoly - kinked demand curve model of Sweezy
? Cournot model
? Application of game theory to oligopoly
? Prisoners dilemma
? Regulation of oligopoly
2. Introduction
In previous few chapters we discussed about two forms of market that is perfect
competition and imperfect competition including monopoly and monopolistic
competition. In fact, perfect competition and monopoly are two extreme forms of
market which are hardly seen in real life. Of course, the monopolistic competition
is a real life market situation where elements of both the perfect competition and
monopoly co-exists; firms compete with each other in the market because of
substitute nature of the products produced by them and enjoys monopoly power
because of brand name associated with their own products. However, in the present
chapter our focus is to highlight another real life market situation known as
‘oligopoly’.
Theory of Oligopoly 3
Institute of Lifelong Learning, University of Delhi
Oligopoly is a form of market wherein the number of sellers of a
product are very few, may be two or few more. In case the
number of sellers in the market is just two then such form of
market is called ‘duopoly’. In case of oligopoly, firms have market
power to set price of their products however, due to existence of
inter-firm rivalry firms cannot decide the market demand of their
products and therefore the market demand curve. An oligopoly
market is characterized by either product differentiation or
product homogeneity and high degree of interdependence among
the competitors. In this form of market price and output decision of a firm may be
dependent on its competitors or may be independent. Because of the presence of
few firms in the industry each firm know that its competitors will respond quickly in
either way to any move by it on price and output change. Therefore, a prudent firm
while taking price output decision must take into consideration the possible reactions
of its rival firms. High market concentration i.e., proportion of total market share
control by a given number of firms, is another prime feature of an oligopoly market.
Economists often believe that if an industry is characterized by high concentration
ratio it is an oligopoly market.
Thus, an oligopoly market is dominated by a small numbers of large firms and there
exist fierce competition among them. There may be many small firms operate in an
oligopoly market. In case products produced by the firms in an oligopoly market is
homogenous, it is referred as pure oligopoly like steel producers in India and if
firms produce differentiated product it is a case of impure oligopoly like market for
cars.
Note the Fundamental Difference between Oligopoly and Monopolistic Competition
The fundamental difference between an oligopoly market and monopolist competitive market is that
under monopolistic competition there are large number of firms produces differentiated products
whereas under oligopoly a few firms, may even two in case of duopoly, produces products which
may be homogeneous or differentiated.
3. Forms of Oligopoly
Based on the nature of product produced, entry condition, collusion among the
firms, etc., oligopoly may be classified differently. Following are the different forms
of oligopoly:
i) Pure/Perfect and Imperfect/Differentiated Oligopoly: This classification
has been made on the basis of the nature of product produced under oligopoly.
In pure oligopoly firm produces homogeneous products whereas in case of
differentiated oligopoly products produced by the firms are different but are
close substitute to each other. Steel, tyre, petroleum oil, cement industries,
airline industry etc., in India are the examples of pure oligopoly whereas soft
Concentration
Ratio
It is the
proportion of total
market share
control by a given
number of firms in
an oligopoly
market.
Theory of Oligopoly 4
Institute of Lifelong Learning, University of Delhi
drinks, car industries, etc., are the examples of imperfect/differentiated
oligopoly.
ii) Collusive and Non Collusive Oligopoly: This
classification of oligopoly is based on the existence or non-
existence of agreements among the firms operating under
oligopoly. If firms are in collusion in fixing the price of the
product it is a case of collusive oligopoly. Whereas in case
of non collusive oligopoly firms take independent decision
with regards to the determination of price of the products.
Thus, in collusive oligopoly the scope of price competition
among the firms does not exist whereas in case non collusive oligopoly firms
take independent decision and compete with each other to determine price of
their products.
iii) Open and Closed Oligopoly: As the name suggests in case of open oligopoly
there is full possibility of entry of new firms into the industry. On the contrary
there is complete restriction to the new firms to enter into the industry in case
of closed oligopoly. Barriers to entry in such market may be technological, legal
or natural. It may be due to ownership of raw materials of strategic importance,
exclusive knowledge of techniques of production, natural advantages in terms of
abundant availability of mineral resources, etc.
iv) Partial and Full Oligopoly: This classification of oligopoly is based on the
existence or non-existence of a dominant firm in the industry. In case of
oligopoly market where a single firm enjoys dominant position over its
competitors and acts as a leader in fixing the price of the product it is a case of
partial oligopoly. In other words partial oligopoly is characterized by presence of
dominant firm in the industry who is the price leader. In case of full oligopoly no
firm enjoys dominant position in the market and act as the price leader.
4. Features of Oligopoly
Following are the main characteristics/features of oligopoly market:
i) Few Sellers and Large Number of Buyers: An oligopoly market is
characterized by few sellers of a product and large number of buyers in the
market. The number of sellers may be two or little more than that. There may be
small number of large firms operate in such market. Because of this concentration
ratio in an oligopoly market is high.
Forms of Oligopoly
i) Perfect and
imperfect oligopoly.
ii) Collusive and non
collusive oligopoly.
iii) Open and closed
oligopoly.
iv) Partial and full
oligopoly
Page 5
Theory of Oligopoly 1
Institute of Lifelong Learning, University of Delhi
Subject: Microeconomics
Lesson:Theory of Oligopoly
Lesson Developer: Bidyadhar Majhi
College/ Department:Shyamlal College, University of Delhi
Theory of Oligopoly 2
Institute of Lifelong Learning, University of Delhi
Contents
1. Learning Outcomes
2. Introduction
3. Forms of Oligopoly
4. Features of Oligopoly
5. Causes of Emergence of Oligopoly
6. Cooperative And Competitive Behaviour Under Oligopoly
7. Price And Output Determination Under Oligopoly
7.1 Price Rigidities under Oligopoly - Kinked Demand Curve Model of Sweezy
7.2 Cournot Duopoly Model
8. Application of Game Theory to Oligopoly
9. Regulation Of Oligopoly
10. Review Points
11. Questions for Practice
12. Suggested Readings
1. Learning Outcomes
The objective of the present chapter is to acquaint the readers about:
? The meaning and definition of oligopoly market
? Different forms of oligopoly
? Features of oligopoly market
? Causes of emergence of oligopoly
? Cooperative and competitive behaviour under oligopoly
? Price and output determination under oligopoly
? Price rigidities under oligopoly - kinked demand curve model of Sweezy
? Cournot model
? Application of game theory to oligopoly
? Prisoners dilemma
? Regulation of oligopoly
2. Introduction
In previous few chapters we discussed about two forms of market that is perfect
competition and imperfect competition including monopoly and monopolistic
competition. In fact, perfect competition and monopoly are two extreme forms of
market which are hardly seen in real life. Of course, the monopolistic competition
is a real life market situation where elements of both the perfect competition and
monopoly co-exists; firms compete with each other in the market because of
substitute nature of the products produced by them and enjoys monopoly power
because of brand name associated with their own products. However, in the present
chapter our focus is to highlight another real life market situation known as
‘oligopoly’.
Theory of Oligopoly 3
Institute of Lifelong Learning, University of Delhi
Oligopoly is a form of market wherein the number of sellers of a
product are very few, may be two or few more. In case the
number of sellers in the market is just two then such form of
market is called ‘duopoly’. In case of oligopoly, firms have market
power to set price of their products however, due to existence of
inter-firm rivalry firms cannot decide the market demand of their
products and therefore the market demand curve. An oligopoly
market is characterized by either product differentiation or
product homogeneity and high degree of interdependence among
the competitors. In this form of market price and output decision of a firm may be
dependent on its competitors or may be independent. Because of the presence of
few firms in the industry each firm know that its competitors will respond quickly in
either way to any move by it on price and output change. Therefore, a prudent firm
while taking price output decision must take into consideration the possible reactions
of its rival firms. High market concentration i.e., proportion of total market share
control by a given number of firms, is another prime feature of an oligopoly market.
Economists often believe that if an industry is characterized by high concentration
ratio it is an oligopoly market.
Thus, an oligopoly market is dominated by a small numbers of large firms and there
exist fierce competition among them. There may be many small firms operate in an
oligopoly market. In case products produced by the firms in an oligopoly market is
homogenous, it is referred as pure oligopoly like steel producers in India and if
firms produce differentiated product it is a case of impure oligopoly like market for
cars.
Note the Fundamental Difference between Oligopoly and Monopolistic Competition
The fundamental difference between an oligopoly market and monopolist competitive market is that
under monopolistic competition there are large number of firms produces differentiated products
whereas under oligopoly a few firms, may even two in case of duopoly, produces products which
may be homogeneous or differentiated.
3. Forms of Oligopoly
Based on the nature of product produced, entry condition, collusion among the
firms, etc., oligopoly may be classified differently. Following are the different forms
of oligopoly:
i) Pure/Perfect and Imperfect/Differentiated Oligopoly: This classification
has been made on the basis of the nature of product produced under oligopoly.
In pure oligopoly firm produces homogeneous products whereas in case of
differentiated oligopoly products produced by the firms are different but are
close substitute to each other. Steel, tyre, petroleum oil, cement industries,
airline industry etc., in India are the examples of pure oligopoly whereas soft
Concentration
Ratio
It is the
proportion of total
market share
control by a given
number of firms in
an oligopoly
market.
Theory of Oligopoly 4
Institute of Lifelong Learning, University of Delhi
drinks, car industries, etc., are the examples of imperfect/differentiated
oligopoly.
ii) Collusive and Non Collusive Oligopoly: This
classification of oligopoly is based on the existence or non-
existence of agreements among the firms operating under
oligopoly. If firms are in collusion in fixing the price of the
product it is a case of collusive oligopoly. Whereas in case
of non collusive oligopoly firms take independent decision
with regards to the determination of price of the products.
Thus, in collusive oligopoly the scope of price competition
among the firms does not exist whereas in case non collusive oligopoly firms
take independent decision and compete with each other to determine price of
their products.
iii) Open and Closed Oligopoly: As the name suggests in case of open oligopoly
there is full possibility of entry of new firms into the industry. On the contrary
there is complete restriction to the new firms to enter into the industry in case
of closed oligopoly. Barriers to entry in such market may be technological, legal
or natural. It may be due to ownership of raw materials of strategic importance,
exclusive knowledge of techniques of production, natural advantages in terms of
abundant availability of mineral resources, etc.
iv) Partial and Full Oligopoly: This classification of oligopoly is based on the
existence or non-existence of a dominant firm in the industry. In case of
oligopoly market where a single firm enjoys dominant position over its
competitors and acts as a leader in fixing the price of the product it is a case of
partial oligopoly. In other words partial oligopoly is characterized by presence of
dominant firm in the industry who is the price leader. In case of full oligopoly no
firm enjoys dominant position in the market and act as the price leader.
4. Features of Oligopoly
Following are the main characteristics/features of oligopoly market:
i) Few Sellers and Large Number of Buyers: An oligopoly market is
characterized by few sellers of a product and large number of buyers in the
market. The number of sellers may be two or little more than that. There may be
small number of large firms operate in such market. Because of this concentration
ratio in an oligopoly market is high.
Forms of Oligopoly
i) Perfect and
imperfect oligopoly.
ii) Collusive and non
collusive oligopoly.
iii) Open and closed
oligopoly.
iv) Partial and full
oligopoly
Theory of Oligopoly 5
Institute of Lifelong Learning, University of Delhi
ii) Products are Homogenous or Differentiated:
Products produced by the firms in the oligopoly
market may be homogenous or differentiated. In
case products are homogenous it is a case of pure
or perfect oligopoly and if products are
differentiated it is a case of imperfect oligopoly. For
example, there are few firms in airline services in
India which is homogenous whereas there are few
firms producing cars in India which are
differentiated. But, both the car and the airline
industry are the example of oligopoly market.
iii) Mutual Interdependence among the Firms: In
an oligopoly market firms are mutually
interdependent with regards to their price and output decisions. Due to market
power of the firm under oligopoly it can set price of its product but, while taking
such decision it has to take into consideration the possible reaction of its rival
firms. It is so because when a firm reduces the price of its product the rival firms
may follow the same whereas in case the firm raises the price the rival firms may
not follow the same.
iv) Advertisement Cost: Because of presence of competitors in the market an
oligopoly firm incurs huge expenditure on advertisement. Existence of high cross
elasticity of demand of the products produced under oligopoly market and price
rigidities, a firm can push up its sells only through advertisement. Thus,
advertisement expenditure is an important component of the total cost of an
oligopolist. Whereas firms under perfect competition and monopoly are not to incur
any expenditure on advertisement.
v) Existence of Price Rigidities: Price rigidity under oligopoly refers to a situation
when a firm is not able to change the price structure of its products. It so happens
because the firm would like to avoid price competition among its rival firms. For
example, if an oligopolist reduces its price then its rivals will also reduce their
prices thus, it would not be a prudent decision on the part of oligopolist. On the
contrary if it raises the prices of its product then its rival firms will not raise the
prices with a view to capture the market demand arise out of increase in the price
by it.
vi) Fierce Competition: Competition among the firms under oligopoly market is
very high because of presence of small number of large sellers. If one firm
changes its price or output decision then it will immediately affect the price and
output decision of its rival firms. It is because of this every firm keeps a close
watch on the action of its rival firms and accordingly take reactive measures. This
kind of keen competition is unique in an oligopoly market.
vii) Some Restriction to New Firms to Enter into the Industry: In oligopoly
market there are some barriers for the new firms to enter into the industry.
Features of Oligopoly
i) Few sellers and large number of
buyers.
ii) Products are homogenous or
differentiated.
iii) High mutual interdependence
among the firms.
iv) Advertisement cost.
v) Existence of price rigidities.
vi) Fierce competition.
vii) Some restriction to new firms to
enter into the industry.
viii) Presence of monopoly element.
ix) Uncertainty.
x) Strategic behaviour.
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