Presentation on theme: "1 Chapter 12 Principles of Economics by Fred M Gottheil Chapter 12 Price and Output Determination Under Oligopoly PowerPoint Slides prepared by Ken Long."— Presentation transcript:
14 Is the U.S. becoming more Oligopolistic? Answer appears to be NO to this question. While there have been some periods of time when industries appeared to be getting more concentrated into fewer firms, there are other periods of history where just the opposite happened.
24 Firms in Oligopoly are said to be Mutually Interdependent Firms realize the large impact that other firms behavior has on their profits Leads to many models of oligopoly, depending on how the firms deal with the mutual interdependence issue
25 One way to deal with the Mutual Interdependence problem is….. LET’S CHEAT!!!! THE COLLUSION SOLUTION!!!
28 One model of collusion that can be used is the cartel model Internationally, some cartels like OPEC exist Domestically, these would be illegal If the cartel can collude perfectly, would tend to charge the monopoly price
29 Ingredients for a successful cartel Control a large share of the market Inelastic and stable demand for the product Similar costs among cartel members Fairly homogenous product Few number of firms Ways of preventing cheating on the agreement
32 Kinked demand curve model of oligopoly: assumption, rivals will match all price cuts but not price increases. Under this assumption, its as if each firm faces a “kinked” demand curve, with 2 sections to it: more elastic above the existing price, since rivals won’t match a price increase, and less elastic below the existing price, since rivals quickly match price cuts.
33 Kinked Demand Curve P1P1 Starting price 33 D MR MR Gap Price Quantity Q1Q1
34 Graph explanation: Let P 1 and Q 1 be the existing price and quantity for this oligopoly firm: due to the assumptions of this model, the demand curve has a kink in it at this price and output. Because of the strange shape of the demand curve, the MR curve is discontinuous, or has a gap in it.
35 Kinked demand curve model is an attempt to explain rigid prices in oligopoly: That is, firms might not change price very often. Why? Firm is reluctant to raise price if its competitors do not, since it could lose sales to them, and little reason is seen to lower price if competitors quickly match the price cut, since little will be gained.
38 Price leadership in Oligopoly One firm, the dominant firm, sets the price, others follow the leader Often the dominant firm is the low cost producer in the industry Is this a form of “tacit” collusion?
44 If the 2 people could collude, would likely choose to not confess, but self interest may drive each to confess, hoping the other does not, end up both confessing, worse off for both—many similar situations perhaps for firms in oligopoly
Two firm game
46 What is a dominant strategy? A strategy that is best regardless of what the opposition does. For B, dominant strategy is to break the agreement, and also for A. Both firms avoid the worst case scenario in this manner.
47 What is a Nash equilibrium? (named for Mathematician John Nash…did you see the film “A Beautiful Mind?) A situation where neither firm can improve its payoff, given what the other firm is doing…in this example, breaking the agreement is the Nash equilibrium
48 Is there any way to get to box 1 where both firms are better off short of outright collusion? Possibility of a tit-for-tat strategy….somehow indicate to the other firm that although you want to hold the agreement, you will switch to match what the other firm does.
51 Why would a firm want to price discriminate? Greater profits possible!!
52 Different types of Price Discrimination “Perfect” price discrimination: Charge each buyer the highest price they are willing to pay
53 More usual type of price discrimination Separate buyers into groups (based perhaps on age, sex, region of country, etc. Groups should have different elasticities of demand
54 Higher price to more inelastic group, lower to more elastic: must also be able to prevent resale of product
55 What is Oligopoly? What concentration ratio constitutes an Oligopoly?What concentration ratio constitutes an Oligopoly? What is an Unbalanced Oligopoly? What is a Balanced Oligopoly? What is Collusion? What is a Cartel?
56 What is the distinguishing feature of Oligopoly?What is the distinguishing feature of Oligopoly? How do firms in an Oligopoly set price?How do firms in an Oligopoly set price? What is Game Theory? What is the Prisoner’s Dilemma? What is Price Discrimination?