price detemination under oligopoly

1. Price Determination Under
Oligopoly
Submitted to:- Submitted By:-
Dr. Vanita Sumit
Asst.prof. (14104024)
MBA Deptt. finance
1

2. Price Determination Under Oligopoly
In the words of Peter C.Dooley “ An
Oligopoly is a market of only a few sellers,
offering either homogenous or differentiated
products.

3. Feature of oligopoly
 A few sellers
 Lack of uniformity
 Homogenous or differentiated product
 Advertisement
 Element of monopoly
 Constant struggle or keen competition
 Uncertainty

4. Classification of oligopoly
1. On the basis of product differentiation
2. On the basis of entry of firm
3. On the basis of agreement
4. On the basis of price leadership

5. Reasons For The Emergence Of
Oligopoly
1. Large Capital
2. Patent Rights
3. Essential Factors
4. Entrepreneurship
5. Mergers
6. Economies of scale

6. Price Determination Under Oligopoly
• Independent Pricing
• Collusive Pricing
• Price Leadership

7. The Old Classical Models Of
Oligopoly
There are only two sellers of a product , there
exists Duopoly.
Following are the three classical models of
duopoly type Oligopoly;-
 The cournot’s Duopoly model.
 The Bertrand’s Duopoly model.
 The Edgeworth Duopoly model.

8. Cournot’s Duopoly model
Augustin cournot, a French economist, was the first to
develop a formal duopoly model in 1838.To illustrate
his model, Cournot assumed ;
a) Two firms, each owning an artesian mineral water
well.
b) Both operate well their well at zero marginal cost.
c) Both face a demand curve with constant negative
slope.
d) Each seller act on the assumption that his competitor
will not react to his decision to change his output
price.

9. Cournot Model Table
Period Firm ‘A’ Firm ’B’
1 ½(1) = 1/2 ½(1/2) = 1/4
2 ½(1-1/4) = 3/8 ½(1-3/8) = 5/16
3 ½(1-5/16) = 11/32 ½(1-11/32) = 21/64
4 ½(1-21/64) = 43/128 ½(1-43/128) = 85/256
- ------- -------
- ------- -------
- ------- -------
N ½(1-1/3) = 1/3 ½(1-1/3) = 1/3

10. Criticism Of The Model
 Cournot’s behavioral assumption is native to
the extent that it implies that firms continue
to make wrong calculations about the
competitor's behavior.
 The assumption of zero cost of production is
totally unrealistic.
 Total market at reach stage is assumed to be
constant which is not the case in real life.

11. Bertrand’s Model Of Duopoly
Joseph Bertrand, a French mathematician
developed his own model of duopoly in
1883.Bertrands model differs from cournot’s
model in respect of his behavioural
assumption. While cournot’s model, each
seller assumes his rival’s output to remain
constant, under Bertrand’s model.

12. Assumptions Of The Model
There are two competitive firms.
Each firm is perfectly aware of the demand
curve.
Each firm aims at maximization of its profit.
Each firm acts on the assumption that its rival
will not change its price.

13. Criticism Of The Model
Bertrand’s model has been criticized on the
same grounds of cournot’s model. Bertrand’s
imficit behavioral assumption that firms
never learn from their past experience seems
to be unrealistic. If cost is assumed to be zero
price will fluctuate between zero and upper
limit of the price, instead of stabilizing at a
point.

14. Edgeworth’s Duopoly model
Edgeworth developed his model of duopoly in
1897. Edgeworth’s model follows Bertrand’s
assumption that each seller assumes his rival’s
price, instead of his output, to remain costant.
“There will be an indeterminate tract through
which the index of value will oscillate, or,
rather will vibrate irregularly for an indefinite
length of time.”

15. Assumptions Of The Model
Each seller continues to assume that his rival will
never change his price even through they are
proved repeatedly wrong. But according to
Hotelling , Edgeworth’s model is definitely an
improvement upon cournot’s model in that it
assumes price, rather than output, to be the
relevant decision variable for the sellers.

16. Price Determination In Non-Collusive
Oligopoly
Each firm can follow an independence price and
output policy on the basis of its judgment
about the reactions of its rivals. If the firm are
producing homogeneous products, it may lead
to price war. Each firm has to fix the price at
the competitive level.
The actual price may fall between the two limits;
 Upper limit of monopoly price,
 Lower limit of competitive price.

17. Price Rigidity – Sweezy’s kinky
Demand Curves
A well known theory formulated to
explain the rigidity of prices in
oligopolistic market was
advanced by Paul sweezy in
1939.

18. Assumptions
The kinky demand curve is based on the following
assumptions;
a) If one firm reduces its price other firms will also
reduce their prices.
b) If one firm increases its price, other firms will
not follow price increase.
c) There is an established prevailing price.
d) The marginal cost curve will pass through the
dotted portion of the marginal revenue
curve.

19. Criticism Of The Prices Rigidity
1. Does not explain price determination
2. Wrong assumptions
3. Ignores non price competition
4. Ignores competitive reaction

20. Collusive oligopoly
It mean that the firm co-operate with each
other in taking joint actions to keep their
bargaining power stronger against the
consumer.
“collusion denoted a situation in which to or
more firm jointly set their prices or output,
divide the market among them ,or make other
business decisions.”

21. Assumption Of Price Determination
Under Perfect Collusion
i. All the firms of the cartel are producing
homogeneous product.
ii. The market demand for the product is the cartel’s
demand.
iii. The demand at each possible price is known.
iv. The marginal cost of all the firms is also known.
v. There are three firms A,B,C in the industry.

22. Price Leadership Model
In the words of McConnel, “ price leadership is a means
by which oligopolist can co-ordinate their price
behavior without entering in out right collusion.
Formal agreements and clandestine meeting are not
involved. Rather a practice evolves where by the
dominate firm usually the largest or the most
efficient in the industry-initiates price change-and all
other firms more or less automatically follow that
price change.”

23. Strategy Of Price Leadership
The price leader will not change the
frequently.
The price leader communicates the future
change in prices to the whole industry.
The price leader does not necessarily choose
the price which maximizes short run profits
for the industry.