education

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Rajarata University of Sri Lanka, Mihintale
Master of Business Administration (MBA)
Name of Student: R.M.K.Jayathilaka
Registration Number : RJT/MBA/2016/40
Business Economics: MBA 1123

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Introduction to Oligopoly market Structure.
An oligopoly is a market structure in which a few firms dominate. When
a market is shared between a few firms, it is said to be highly
concentrated. Although only a few firms dominate, it is possible that
many small firms may also operate in the market.
Characteristics of Oligopoly market Structure.
The three most important characteristics of oligopoly are
1. Few Sellers: Under the Oligopoly market, the sellers are few, and the
customers are many. Few firms dominating the market enjoys a
considerable control over the price of the product.
2. Interdependence: it is one of the most important features of an Oligopoly
market, wherein, the seller has to be cautious with respect to any action
taken by the competing firms. Since there are few sellers in the market, if
any firm makes the change in the price or promotional scheme, all other
firms in the industry have to comply with it, to remain in the competition.
3. Advertising: Under Oligopoly market, every firm advertises their
products on a frequent basis, with the intention to reach more and more
customers and increase their customer base.This is due to the advertising
that makes the competition intense.
If any firm does a lot of advertisement while the other remained silent,
then he will observe that his customers are going to that firm who is
continuously promoting its product. Thus, in order to be in the race, each
firm spends lots of money on advertisement activities.
4. Competition: It is genuine that with a few players in the market, there
will be an intense competition among the sellers. Any move taken by the

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firm will have a considerable impact onits rivals. Thus, every sellerkeeps
an eye over its rival and be ready with the counterattack.
5. Entry and Exit Barriers: The firms can easily exit the industry
whenever it wants, but has to face certain barriers to entering into it. These
barriers could be Government license, Patent, large firm’s economies of
scale, high capital requirement, complex technology, etc. Also,
sometimes the government regulations favor the existing large firms,
thereby acting as a barrier for the new entrants.
6. Lack of Uniformity: There is a lack of uniformity among the firms in
terms of their size, some are big, and some are small.
Since there are less number of firms, any action taken by one firm has a
considerable effect on the other. Thus, every firm must keep a close eye
on its counterpart and plan the promotional activities accordingly.
Various theories developed in oligopolistic market structure
1. Game Theory
A technique often used to analyze interdependent behavior among
oligopolistic firms is game theory. Game theory illustrates how the
choices between two players affect the outcomes of a "game." This
analysis illustrates two firms cooperating through collusion are better off
than if they compete.

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The exhibit to the right
illustrates the alternative
facing two oligopolistic firms,
Juice-Up and OmniCola, as
they ponder the prospects of
advertising their products.
In the top left quadrant, if
OmniCola and Juice-Up
BOTH decide to advertise,
then each receives $200
million in profit.
However, in the lower right quadrant, if NEITHER OmniCola or Juice-
Up decide to advertise, then each receives $250 million in profit. They
receive more because they do not incur any advertising expense.
Alternatively, as shown in the lower left quadrant, if OmniCola advertises
but Juice-Up does not, then OmniCola receives $350 millionin profit and
Juice-Up receives only $100 in profit. OmniCola receives a big boost in
profit because its advertising attracts customers away from Juice-Up.
But, as shown in the top right quadrant, if Juice-Up advertises and
OmniCola does not, then Juice-Up receives $350 million in profit and
OmniCola receives only $100 in profit. Juice-Up receives a big boost in
profit because its advertising attracts customers away from OmniCola.
Game theory indicates that the best choice for OmniCola is to advertise,
regardless of the choice made by Juice-Up. And Juice-Up faces
EXACTLY the same choice. Regardless of the decision made by
OmniCola, Juice-Up is wise to advertise.

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The end result is that both firms decide to advertise. In so doing, they end
up with less profit ($200 million each), than if they had colluded an
2. Theory of Kinked Demand Curve
The kinked-demand curve as a tool of analysis originated from
Chamberlin’s inter­sectionof the individual dd curve of the firm and its
market-share curve DD’.
However, Chamberlin himself did not use ‘kinked-demand’ in his
analysis. Hall and Hitch in their famous article ‘Price Theory and
Business Behaviour” used the kinked-demand curve not as a tool of
analysis for the determination of the price and output in oligopolistic
markets, but to explain why the price, once determined on the basis of the
average-cost principle, will remain ‘sticky.’ That is, Hall and Hitch use
the kinked-demand curve in order to explain the ‘stickiness’ of prices in
oligopolistic markets, but not as a tool for the determination of the price
itself, which is decided on theaverage-cost principle .
However, in the same year (1939), P. Sweezy published an article in
which he intro-duced the kinked-demand curve as an operational tool for
the determination of the equilibrium in oligopolistic markets. His model,
which still holds (surprisingly) an important position as an ‘oligopoly
theory’ in most textbooks, may be presented as follows.
The demand curve of the oligopolist has a kink (at point E in figure 9.16),
reflecting the following behavioural pattern. If the entrepreneur reduces
his price he expects that his competitors will follow suit, matching the
price cut, so that, although the demand in the market increases, the shares

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of competitors remain unchanged. Thus for price reductions below P
(which corresponds to the point of the kink) the share-of-the- market-
demand curve is the relevant curve for decision-making.
3. Bertrand model
The Bertrand model is
essentially the Cournot–Nash
model except the strategic
variable is price rather than
quantity.
The model assumptions are:
There are two firms in the
market
They produce a homogeneous
product
They produce at a constant
marginal cost
Firms choose prices PA and PB simultaneously
Firms outputs are perfect substitutes
Sales are split evenly if PA = PB
The only Nash equilibrium is PA = PB = MC.
Neither firm has any reason to change strategy. If the firm raises prices it
will lose all its customers. If the firm lowers price P < MC then it will be
losing money on every unit sold.
The Bertrand equilibrium is the same as the competitive result. Each firm
will produce where P = marginal costs and there will be zero profits. A

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generalization of the Bertrand model is the Bertrand–Edgeworth model
that allows for capacity constraints and more general cost functions.
4. Cartel Theory
A cartel is defined as a group of firms that gets together to make output
and price decisions. The conditions that give rise to an oligopolistic
market are also conducive to the formation ofa cartel; in particular, cartels
tend to arise in markets where there are few firms and each firm has a
significant share of the market. In the U.S., cartels are illegal; however,
internationally, there are no restrictions on cartel formation. The
organization of petroleum‐exporting countries (OPEC) is perhaps the
best‐known example of an international cartel; OPEC members meet
regularly to decide how much oil each member of the cartel will be
allowed to produce.
Oligopolistic firms join a cartel to increase their market power, and
members work together to determine jointly the level of output that each
member will produce and/or the price that each member will charge. By
working together, the cartel members are able to behave like a
monopolist. For example, if each firm in an oligopoly sells an
undifferentiated product like oil, the demand curve that each firm faces
will be horizontal at the market price. If, however, the oil‐producing firms
form a cartel like OPEC to determine their output and price, they will
jointly face a downward‐sloping market demand curve, just like a
monopolist. In fact, the cartel's profit‐maximizing decision is the same as
that of a monopolist, as Figure reveals. The cartel members choose their
combined output at the level where their combined marginal revenue
equals their combined marginal cost. The cartel price is determined by

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market demand curve at the level of output chosen by the cartel. The
cartel's profits are equal to the area of the rectangular box labeled abcd in
Figure . Note that a cartel, like a monopolist, will choose to produce less
output and charge a higher price than would be found in a perfectly
competitive market. Once established, cartels are difficult to maintain.
The problem is that cartel members will be tempted to cheat on their
agreement to limit production. By producing more output than it has
agreed to produce, a cartel member can increase its share of the cartel's
profits. Hence, there is a built‐in incentive for each cartel member to
cheat. Of course, if all members cheated, the cartel would cease to earn
monopoly profits, and there would no longer be any incentive for firms to
remain in the cartel. The cheating problem has plagued the OPEC cartel
as well as other cartels and perhaps explains why so few cartels exist.

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5. Cornet’s Model
Augustine Cornet, a French economist expounded this model in 1838.
However, not much attention was paid to the earliest duopoly model until
1930s. It has, now become one of the basic tools of analysis in modern
theory of oligopoly.
A duopoly is the most basic form of oligopoly .A market dominated by a
small no companies. A duopoly can have the same impact on the market
on monopoly if two players collude on prices or output.
The basic version of the Courante model dealt with a duopoly or two main
producers in a market. While it remain the standard for oligopolistic

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competition Cornet model has some drawbacks based on its assumptions
that may be somewhat unrealistic in the real world.
Boeing and Airbus have been called a duopoly for their command of the
large passenger air plane market. Similarly, Amazon and Apple have been
called a duopoly for their do mince