Oligopoly

Define oligopoly

is an imperfectly competitive industry with high level of market concentration

What are the features of an oligopoly

Few dominant firms, high barriers to entry and exit, interdependence, non price competition

Give examples of oligopoly markets

Airlines, high street banks, broadbands

What are sunk costs

Costs that can’t be recovered eg advertising costs

What’s interdependence

The decisions of one firm will directly impact the decisions of other firms in the market

Give an example of a firms interdependence

If one firm changes their price other firms may be forced to change their price to maintain market share

What does interdependence lead to

Creates a competitive environment making it volatile and uncertain

what’s non price competition

it’s the use of other competitive strategies to gain an advantage over rivals

What are some non price competition strategies

Advertising, product innovation, branding/loyalty

Why is price competition not effective

It isn’t effective as there’s only a few dominant firms

Give an example of non price competition

Tesco loyalty card. Also if two firms sell similar products they can compete in advertising instead of price

What are the barriers to entry in an oligopoly

Economies of scale such as purchasing or marketing

Brand loyalty

Patent protection this means competitors cannot replicate

Expertise and reputation

Control of important platforms

Vertical intergration

Expertise and reputation

What’s concentration ratio

The combined market share of leading business in a clearly defined market

How do you calculate the concentration ratio

We sum the market share of leading 3 or 5 firms an oligopoly exits when the five firm concentration ratio is 60% ( can be around that figure)

What’s a price war

Firms will keep trying to undercut eachother till the price is driven down super low and very little profit can be made by either firm

What’s in the pay off matrix graph

Two firms and their two strategy

Eg two firms- Pepsi and cola and two strategies low price and high price

And there pay off in the split boxes

Left box is the left firm and right box is right firm

From the example above why do Pepsi and cola have an incentive to cut their prices

Pepsi has an incentive to set a low price because undercutting cocla can increase its pay off from 2bn-3bn

Equally cola has an incentive to set a low price because undercutting Pepsi it can increase its payoff

Why is game theory important and used

firms face a number of strategic choices which govern their ability to achieve a desired pay off

What can game theory be useful for

it can be used for two different options wether it’s price or non pricing like advertising

Define collusion

When rival companies agree to work together for their mutual benefit: high profits and revenues

Give a reason for collusive behavior

firms may chose to act together to influence price levels or production which minimises competitive pressure they face

What does collusion lead to

Lower consumer surplus but higher prices and greater profits for firms colluding

What are the two types of collusion

Overt collusion and tacit collusion

Overt collusion is a formal agreement between firms to collude

Tacit collusion is an unspoken agreement between firms

Why’s overt collusion illegal

As it’s a formal agreements amongst competing firms they can avoid competition and raise prices which is bad for consumers

Why is whistle blowing good

When someone reports illegal practises the firm will get immunity from fines and the competitor firms you were colluding with end up with huge fine reducing their profits

Why is the formal agreement in overt collusion secret

To avoid fines or penalties from cma

Give an example of overt collusion

OPEC which is a oil cartel of countries, they collude together to keep prices high

What’s tacit collusion

Unspoken agreement between firms, firms act independently and don’t communicate but collusion is implied

Give an example of tacit collusion firms

The Uk supermarket industry they compete in terms of prices even if there’s no contact between eachother

Eg Tesco and Sainsbury’s

What are the types of price competition

Price wars , predatory pricing , limit pricing

Give an example of price war

Supermarkets in the 1990 started a price war over baked beans they kept lowering their prices

What’s predatory pricing

It involves firms setting prices very low to drive out firms already in the industry (illegal)

What’s the effect of predatory pricing in the short run

In the short run it leads to firm making a loss Ar is lower then ac but as firms leave in the long run the remaining firms raise their prices to regain revenue and profits take over market

What’s limit pricing

When Incumbent firms lower prices to discourage the entry of other firms so there are low profits, potential firms are unable to complete

What’s price wars

Firms will keep trying to undercut eachother till the price is driven down super low and very little profit can be made by either firm

What are the types of non price competition

Advertising

Loyalty cards

Branding

Quality

Why may advertising be beneficial

Helps make the brand more known and influence consumer preferences, attracting more customers to the brand

Why may advertising be bad

It’s difficult to know what the effect is of increased advertising spending and for some firms it may be ineffective which would make them incur large sunk costs which are unrecoverable

Why may loyalty cards be good

Helps Intise customers and increase demand for that firm as there can be good deals and offers which attract more customers

Give an example of a company that already offers loyalty card

Tesco loyalty card - gives money off shopping and tickets to leisure activities, this helps Tesco compete with other supermarkets

Why’s branding good

It can increase brand loyalty and demand becomes more price inelastic, it can attract more customers as its well known brand and keep customers, increasing market share

Why’s quality good

Firms can invest into r&d increasing dynamic efficiency and higher quality eg Samsung making screen bigger but firms need supernormal profits to do this, to re invest

Firms might have better customer service such as more available delivery times or keep shops open to increase convenience