The Demand Curve of Oligopoly

Oligopoly is a market structure characterized by a small number of large firms that dominate the market. In an oligopoly, each firm's pricing and output decisions are influenced by the actions of its competitors. As a result, the demand curve faced by an oligopolistic firm is different from that faced by firms in perfect competition or monopoly.

1. Kinked Demand Curve
The demand curve of an oligopoly is often referred to as a kinked demand curve. This is because the demand curve has a distinct kink or bend at the current market price. The kinked demand curve assumes that firms in an oligopoly are mutually interdependent and are aware of each other's actions.

2. Explanation of the Kinked Demand Curve
The kinked demand curve is based on the assumption that firms in an oligopoly are reluctant to change their prices. If a firm increases its price, it fears losing market share to its competitors, as consumers may switch to lower-priced substitutes. However, if a firm decreases its price, it expects its competitors to follow suit, resulting in a price war and lower profits for all firms.

3. The Upper and Lower Portions of the Demand Curve
The kinked demand curve has two distinct portions: the upper portion and the lower portion.

- The upper portion of the demand curve is relatively elastic. This means that if a firm increases its price above the kink, it will face a relatively elastic demand. This is because consumers are sensitive to price changes and will switch to lower-priced substitutes.
- The lower portion of the demand curve is relatively inelastic. If a firm decreases its price below the kink, it will face a relatively inelastic demand. This is because consumers are less likely to switch to higher-priced substitutes, as they perceive the lower price as a temporary or promotional offer.

4. Implications of the Kinked Demand Curve
The kinked demand curve has several implications for the behavior of oligopolistic firms:

- Price rigidity: The kinked demand curve suggests that firms in an oligopoly are likely to maintain their current price due to the fear of retaliation from competitors. This leads to price rigidity in the market.
- Non-price competition: Instead of competing on price, oligopolistic firms often engage in non-price competition, such as advertising, product differentiation, and customer service, to gain a competitive advantage.
- Uncertainty: The kinked demand curve introduces uncertainty into the oligopolistic market. Firms are uncertain about how their competitors will react to their price changes, making it difficult to predict market outcomes.

Conclusion
In conclusion, the demand curve of an oligopoly is kinked due to the interdependence and strategic behavior of firms in the market. The kinked demand curve reflects the reluctance of firms to change their prices and the potential for retaliatory actions by competitors. This leads to price rigidity and non-price competition in the oligopolistic market.