Principles of Microeconomics Chapter 17 Oligopoly a market structure in which only a few sellers offer similar or identical products are interdependent As a result of oligopoly the actions of any one seller in the market can have a large impact on the profits of all the other sellers They Game theory the study of the behavior of people in strategic situations predicting how others will act Issue in oligopoly tension between cooperation and self interest Oligopolists are best off when they cooperate and act like a monopolist small q of output price above marginal cost Competition Monopolies and Cartels Collusion an agreement among firms in a market about quantities to produce or prices to charge group of firms acting in collusion is a cartel Once a cartel is formed the market is in effect served by a monopoly A cartel must agree on the total level of production and the amount produced by each member Equilibrium for Oligopoly If members individually pursue their own self interest when deciding how much to produce they produce a total quantity greater than monopoly quantity charge a price lower than monopoly price and earn total profit less than monopoly profit outcome is called Nash Equilibrium a situation in which economic actors interacting with one another each choose their best strategies given the strategies that all the other actors have chosen Because they pursue they own self interest they do not end up reaching the monopoly outcome and maximizing joint profit Each oligopolist is tempted to raise production and capture a larger share of the market As each of them tries to do this total production rises and price falls When firms in an oligopoly individually choose production to maximize profit they produce a quantity of output greater than the level produced by monopoly and less than the level produced by competition The oligopoly price is less than the monopoly price but greater than competitive price which marginal cost As the size of a cartel increases reaching and enforcing an agreement becomes more difficult But if the oligopolists do not form a cartel they must decide on their own how much to produce At any time each producer has the option to raise production by one unit 2 effects The output effect because price is above marginal cost selling one more unit at the going price will raise profit The price effect raising production will increase the total amount sold which will lower the price of the good and lower the profit on all other units sold If the output effect is larger than the price effect the owner will increase production If the price effect is larger than the output effect the owner will not increase production As the oligopoly grows in size the magnitude of the price effect falls The production decision of an individual firm no longer affects the market price A large oligopoly is essentially a group of competitive firms because competitive firms consider only the output effect when deciding how much to produce As the of sellers in an oligopoly grows larger an oligopolistic market looks more and more like a competitive market price approaches marginal cost and the quantity produced approaches the socially efficient level Prisoner s Dilemma PD Prisoners dilemma a game between two captured prisoners that illustrates why cooperation is difficult to maintain even when it is mutually beneficial Dominant strategy a strategy that is best for a player in a game regardless of the strategies chosen by other players In PD the players do not know what the other players will do so they make the dominant strategy that is in their self interest but actually makes everyone worse off Oligopolies as a PD advance It is difficult to cooperate even when oligopolies make agreements in Sometimes producing more will lead to higher profits for an individual firm as a dominant strategy others might see this and do the same thing leading to overall low profits for players involved PD and Society s Welfare Lack of cooperation a detriment to all players sometimes society This depends on the market game if it s an arms race it sucks for If it s a simple consumer good the price will be driven down to society maximize total surplus SOMETIMES PEOPLE CAN COOPERATE especially when players play the game multiple times can institute penalties players concerned about future profits etc Public Policy toward Oligopolies Policymakers try to induce oligopolies towards competitive not cooperation Policy discourages cooperation through the common law E g Sherman Antitrust Law 1890 Clayton Act 1914 Most people agree that price fixing agreements among competing firms should be illegal But some practice that seem anticompetitive are legitimate business practices resale price maintenance predatory pricing slashing prices tying bundling goods at one price
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