24January2017

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Duopoly And Oligopoly

Duopoly and oligopoly are the two others form of imperfect competition.

By duopoly we mean that market situation where two firms have a complete control over the whole production, while oligopoly is that market situation where there are few firms which have complete control over the whole production.

The economists have presented different models regarding duopoly and oligopoly.These models are divided in to

Non collusive model, and Collusive model 

0.1. Non Collusive model

Non collusive models are those in which there are only two firms. But they do not make any secret or open agreement regarding the price charged and output sold. These models are.

  • Cournot's Model
  • Bertrand Model
  • Edgeworth Model
  • Chamberlins Model
  • Sweezy Model

0.2. Collusive Models

They are divided in to two types:

  • Formal collusive models
  • Informal Collusive models

0.3. Formal Collusive Model

In this model firms make open and clear out agreement regarding price and output sold, i-e cartel.

0.4. Informal Collusive Model

In this model firms make unwritten agreement and keep the government unaware. In this respect price leadership models have been presented.

1. Cournot Model

The model was presented in 1938. He supposed there are only two firms in industry producing identical output on zero prices. And each firm has negatively sloped ddc. Each firm feels the reaction of other. So both firms will make decision regarding output. So each firm will produce output where its profit is maximum, keeping in view the total dd in this way each firm will produce 1/3 of the total demand. So this will be the stable equilibrium.

For example if two firms are selling mineral water and the total 1200 G per day, so each firm will produce 1/3 * 1200=400G. So total product =800, while the total demand is 1200, so there will be lack/shortage of SS and the profit of both firms will be maximum.

2. Bertrand Model

Bertrand criticized Cournot model and says why the rival firms keep output constant and why not prices, while both firms have identical ddc and want to maximize their profit keeping in view that the rival firm will lower the price. For example, firm charges Rs. 12 per G, the 2nd firm keeps slight low price, i-e Rs 11 per G. Again the first will lower the price to Rs 10 per G, to increase their sale, so the price will decrease where competition starts.

3. Edgeworth Model

Edgeworth is known as unstable model. He assumes:

Goods are homogeneous.

Costs are identical

Both firms produce a limited quantity to sell

Each firm will try to maximize its profit.

The other firm will charge that price which is selected by the first one.

Thus accordingly to E-model in SR prices will fluctuate between perfect competition and monopoly. So due to price fluctuation there would not be stable equilibrium. For example, if the first firm sets the price at Rs. 12 per G, and 2nd will set at Rs 11 per G. Then the first will again Rs 10 Per G, and the 2nd will follow it. So price war will start and price will fall to such level when the demand for production exceeds the limited supply. When both reach to minimum price level, oe of them will rise the price the other firm will follow it which is monopoly price, so this process will repeat again and again.

4. Chamberlin Model

All the assumptions presented by E-Model are taken by C-model. Tis model is known as mutual dependence recognized. According to Chamberlin both the firms will recognize the importance of each other and both will sell equal amount of output at the same price, so they will maximize their profit without any agreement. Accordingly half will be sold by first firm and half by firm 2nd.

5. Sweezy kinked DD curve Model (1939)

According to Sweezy a firm will be in equilibrium and profit will be maximum when individual dd curve cuts proportionate DDC. Kinked DD curve explains the stickiness of prices in oligopolistic market. This can be explained by diagram

What is Sweezy kinked DD curve Model

The kinked ddc represents the reality that is oligopoly price is rigit. It explains that if one seller reduces the price the other will follow him. But if one increases price the other will follow him because of the reason not to lose their customers. In this figure dd is proportional ddc. Dd is individual ddc. They intersect at point E. According dED is new ddc kinked at E, so it is kinked ddc where the upper part of dEd, i-e dE is flattered and more elastic, while the lower part is steeped (ED) which is less elastic.

The MR curve is DVAMR. This curve has discontinued part VBA, such discontinuity is because of point E of kinked curve. The AMR curve of MR is parallel to DDC, i-e ED.

Here a firm is in equilibrium as to the left of kinked ddc MR>MC, while to the right MC>MR, so the firm's profit is maximized corresponding to the kink. So a firm will be in equilibrium where MC cuts MR. So at equilibrium or the left AR or DD>MC. According to Sweezy the price is rigid. Equilibrium and output will not be affected, so the basic equilibrium is at B where MC^^1=MR, P=0P output is 0Q. In the range of discontinuity ABV at MC^^2 or MC^^0 the level of output 0Q and p=0p remain unchanged. So it is clear that according to Sweezy the price under oligopoly is rigid and change in cost will not affect the output.

6. Collusive Oligopoly

In collusive model the firm enters in to same type of agreement. The agreement may be open or secret. But majority of them are secret. To explain collusive oligopoly professor W.Feener has presented cartel and leadership models.

7. Cartel Model

Cartel is an organization of seller's with the aim to minimize the role of perfect competition. For example, if any country, five or six firms producing tyres and decide informally that they will not compete each other regarding the sale of the output cartels are of two types.

Cartel aiming at joint profit maximizing.

Market sharing cartel.

8. Joint profit maximizing Cartels: or Cartels aiming at joint profit maximization:-

In this kind of cartel firms make a clear agreement regarding price and other market variable.

In such cartel we assume all the firms are producing similar goods. All the firms in cartel for formulate a central agency which decides about the price charged output sold in market to maximize their profit which can be explained with the help of a diagram.

In such cartel we assume all the  firms are producing similar goods

In the diagram when in any firm AC is low more output will be offered for sale, while where in a firm AC is high less output will be offered for sale.

So this distribution of output and profit will be made by the cartel. Both the firms will accept it.

9. Market sharing cartel Model

Market sharing cartel model means after agreement how much output will be sold by a firm cartel will allow it a specific share is known as MSCM. Such cartel models are of two types.

10. Non-Price Competition Agreement

Under this cartel when price is settle then each firm can sell the output as it sees fit, but if there is cost firm will ask for low price and secretly will charge low price, so price war start. So cheater (low price charger) will be expelled from cartel country the cartel authority will try to compensate the loser firm which can be explained by Diagram.

125.gif

Monopoly or cartel price is PM the cost in firm B is low its equilibrium is at EQ. So it will ask for low price. But in A the firm has high cost as to B so cartel will be short lifted. In market B low price will be charged, i-e PB so it will attract more customers and its ddc will be more elastic so it will sell more output and its profit will be maximum.

10.1. Sharing of market by agreement on quotas

Under Cartel member make agreement regarding price shares in output is settled by Cartel with the assumption of equal cost, i-e if there are two firms so ½ will be produced / sell by each one as shown in diagram.

126.gif

The industry is in equilibrium at e where CMC=MR P=0P 0M will be equally shared between the 2 firms so it is stable cartel each firm is getting abnormal profit.

11. Informal collusive models/ price leadership models

If the firms sell their output at the price which is settled  by the leader firm because no firm is able to compete them. This model is presented by W.Fellner.

Leadership model is of two kinds

Low cost price leadership

Dominant leadership model

11.1. Low cost price leadership:

In this model industry consist of 2 firms producing identical output. Further in this model the firm may have equal or unequal shares.

11.2. Model of Equal shares

127.gif

In this figure firm A is leader firm. Its equilibrium takes place at EA, selling 0QAE output charging price 0PA, while firm B is in Equilibrium at EB-Selling 0QBE. But cannot change 0PB because lower price is settled by firm A at 0PA. So firm B will follow firm A and will sell 0BE. The total dd=0Q. So firm A will sell 00QAE and firm B0Q-)QAE=)QBE.

11.3. Model of Unequal shares

This can be explained with the help of diagram.

Model of Unequal Shares

In diagram the price of the leader firm is 0PA. Equilibrium at e1 where MCA=MR. The highest cost firm is in equilibrium at e2, setting the price at PB. But if the leader firm cannot change price BP then firm B will follow it. Accordingly firm will sell 0QAE at 0P1. And the remaining will be sold by firm B charging price 0PA.

12. Dominate Price Leadership Model

If there  are many small firms and one is a big firm producing identical output and the small firms cannot compete the dominant firm. Then the dominant firm sets the price and the small firms will follow it. The small firms will act as they are facing in perfect competition. They will be just price taker as shown in the diagram.

93.gif

In figure dd is the ddc of the dominant firm. MRD is MR of the dominant firm. ?MC is the summation of MC of small firms. Dd is obtained by ?MC from DD (Market dd). If the leader firm sets the price at Rs 7, then the total dd in market is equal to the total SS of small firms at B. But the dominant firm will set the price at Rs 6 and will sell 200. At price Rs 6 the small firms will supply output 400. So total SS is 600, as shown by point C.



  • Supply
  • Price Effect (PE)
  • Ordinal Approach
  • Elasticity Of Demand


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