1. Oligopoly Price and output under oligopoly
A2 Economics

2. Key Issues Meaning of oligopoly Interdependence between producers
Importance of uncertainty within this market structure
Examples of oligopoly
Price and non-price competition
The kinked demand curve
Price and output under conditions of oligopoly

3. What is an Oligopoly?
Oligopoly is best defined by the market conduct (behaviour) of firms
A market dominated by a few large firms I.e. “Competition amongst the few”
High level of market concentration
Concentration ratio is the market share of the leading firms
Each firm tends to produce branded / differentiated products
Key issue is
behaviour of a few!

4. What is an Oligopoly? Entry barriers – long run supernormal profits
Mutual interdependence between competing firms (important)
Intensive non-price competition is common
Periodic aggressive price wars
Strong tendency for many market structures to tend towards oligopoly in the long run
Market consolidation
Exploitation of economies of scale

5. Examples of Oligopolies
Take any one of these business areas and see if you can name the top 5 companies!
Petrol Retailing
National Food Retailers
Hotel Industry
DIY Retail Sector
Electrical Retailing
Package Holiday Companies
Leading Commercial Banks
Telecommunications Industry
Pharmaceutical companies
Soft drinks manufacturers
Low cost airlines
Computer games console manufacturers
Orange competes in an oligopoly – there is intense price and non-price competition for customers

6. To name a few examples of oligopolies
Groceries - dominated in the UK by Asda/Wal Mart, Tesco, Sainsbury and Safeway/Morrisons
Chemicals/oils - wide definition of the term chemical but key players are Shell, Exxon, GlaxoSmith Klein, ICI, Kodak, Astra-Zeneca, BP, DuPont, BASF and Bayer
Brewers - Interbrew, Scottish and Newcastle, Guinness, and Carlsberg Tetley have a four firm concentration ratio of 85%!
Fast food outlets - McDonalds, Burger King, KFC
Bookstores - Amazon, Barnes & Noble, Borders, Blackwells, Waterstones
Detergents - Unilever and Proctor and Gamble
Music retailing - HMV, Virgin, Tower, Amazon, MVC
Banks - NatWest, Barclays, HSBC, Lloyds TSB
Entertainment - Time-Warner, BMG,
Electrical retail - Dixons, Currys, Comet
Electrical goods - Sony, Hitachi, Panasonic, Canon, Bush, Fuji
Mobile phone networks - O2, Vodafone, Orange, T-Mobile
Home DIY - B&Q, Focus, Homebase

7. Market Share in Food Retailing
What’s the concentration ratio of top 3?
Or the top 5?

8. The Concentration Ratio in Hotels
3 firm concentration ratio
= 49.4%
5 firm concentration ratio
= 65.6%
7 firm concentration ratio
= 75.6%

9. Measuring the Concentration Ratio in Clothes Retailing
Old data alert!!!!
Principal still applies though!

10. So what’s the problem with a high concentration ratio?
You need to think back to arguments against monopolies.

11. Concentration ratio & market share
Market forms can often be classified by their concentration ratio. Listed, in ascending firm size, they are:
Perfect competition, with a very low concentration ratio.
Monopolistic competition, below 40% for the four-firm measurement.
Oligopoly, above 40% for the four-firm measurement.
Monopoly, with a near-100% four-firm measurement.

12. Price Wars in Oligopolistic Markets
Price wars are concerned with raising or defending market share
Firms depart from short run profit maximization when they engage in price wars – but can return to this in the long run
They often happen after a period of relative price stability or when new firms enter the market
Low cost airlines
Petrol retailing
The Burger market
Personal Computers
Broadband internet services
Package holiday industry
Mobile Phone Companies
Mortgage Market
Car and home insurance
Can you think of some ‘pricing’ strategies that these businesses tend to use?

13. Importance of Non Price Competition
Non price competition involves
Use of advertising and marketing strategies to increase demand and develop brand loyalty
Other policies to increase market share
guaranteed delivery times
longer opening hours
Advertising spending runs in £ millions for many firms
Some firms apply the profit maximising rule to advertising
Others see advertising as a way of increasing revenue
Important for new business start-ups
Seen as a barrier to entry by incumbent businesses

14. Non-Price Competition in Food Retailing
Traditional advertising / marketing
Loyalty cards
Banking and other Financial Services
In-store chemists / post offices /
Home delivery systems
Discounted petrol
Extension of opening hours (24 hour shopping)
Innovative use of technology for shoppers
Incentives to shop at off-peak times
Internet shopping

15. The Kinked Demand Curve
One model of price and output determination

16. The Kinked Demand Curve
Rival firms assumed to follow a price cut (making demand relatively inelastic)
but
firms are assumed not follow a price increase (making demand relatively elastic)
Price
AR1
AR2
Assumes the main aim of the firm is to maintain market share
MR1
Output
MR2

17. Deriving the Kinked Demand Curve
Price
Assume we start out at P1 and Q1:
Will a firm benefit from raising price above P1?
Will it benefit from cutting price below P1? P1
AR1
Output Q1
MR1

18. Deriving the Kinked Demand Curve
Price
Raising price above P1
Demand is relatively elastic
Firm loses market share and some total revenue
Assume we start out at P1 and Q1:
Will a firm benefit from raising price above P1?
Will it benefit from cutting price below P1? P1
AR1
Output Q1
MR1

19. Deriving the Kinked Demand Curve
Price
Raising price above P1
Demand is relatively elastic
Firm loses market share and some total revenue
Assume we start out at P1 and Q1:
Will a firm benefit from raising price above P1?
Will it benefit from cutting price below P1? P1
Reducing price below P1
Demand is relatively inelastic
Little gain in market share – other firms have followed suit
Total revenue may still fall
AR1
Output Q1
MR1

20. Profit Maximisation? MC AR MR Price
If MC curve for the first cuts through the discontinuity in the MR curve – does this mean that the firm is maximizing profits? MC AR
Output MR

21. A Rise in Marginal Costs
An increase in raw material prices causes an upward shift in the firm’s marginal cost curve
With a kinked demand curve (and discontinuity in the MR curve) there may be no change in the profit maximizing price and output
Price
MC2
MC1 AR
Output MR

22. Oligopoly Pricing Four major theories about oligopoly pricing:
Oligopoly firms collude to charge the monopoly price
Oligopoly firms compete on price so that price and profits will be the same as a competitive industry
Oligopoly price and profits will be between the monopoly and competitive ends of the scale
Oligopoly prices and profits are "indeterminate" (oligopoly seen as difficult to model)
In reality the pricing strategies for businesses within an oligopoly can be expected to change over time