Monday, May 19, 2014

Oligopoly and Its Features

Oligopoly is a market situation in which there are a few firms selling homogeneous or differentiated products. It is difficult to pinpoint the number of firms in the oligopolist market. There may be three” four of five firms. It is also known as competition among the few. With only a few firms in the market, the action of one firm is likely to affect the others. An oligopoly industry produces either a homogeneous product or heterogeneous products. The former is called pure or perfect oligopoly and the latter is called imperfect or differentiated oligopoly. Pure oligopoly is found primarily among producers of aluminium, cement, copper, steel, electricity, etc. Differentiated oligopoly is found among producers of such consumer goods as automobiles, cigarettes, soaps & detergents, TVs, rubber tyres, refrigerators, etc.
Features of Oligopoly
1.       Profit maximization conditions: An oligopoly maximizes profits by producing where marginal revenue equals marginal costs.
2.       Ability to set price: Oligopolies are price setters rather than price takers.
3.       Entry and exit: Barriers to entry are high. The most important barriers are economies of scale, patents, access to expensive and complex technology, and strategic actions by incumbent firms designed to discourage or destroy nascent firms.

4.       Number of firms: "Few" – a "handful" of sellers. There are so few firms that the actions of one firm can influence the actions of the other firms.
5.       Long run profits: Oligopolies can retain long run abnormal profits. High barriers of entry prevent sideline firms from entering market to capture excess profits.
6.       Product differentiation: Product may be homogeneous (steel) or differentiated (automobiles).
7.       Perfect knowledge: Assumptions about perfect knowledge vary but the knowledge of various economic actors can be generally described as selective. Oligopolies have perfect knowledge of their own cost and demand functions but their inter-firm information may be incomplete. Buyers have only imperfect knowledge as to price cost and product quality.

8.       Interdependence: The distinctive feature of an oligopoly is interdependence. Oligopolies are typically composed of a few large firms. Each firm is so large that its actions affect market conditions. Therefore the competing firms will be aware of a firm's market actions and will respond appropriately. For example, an oligopoly considering a price reduction may wish to estimate the likelihood that competing firms greater revenue and market share.