Price Determination under Oligopoly:
Price Determination under Oligopoly 3. Non-Price Competition in Oligopoly 1. It is difficult to pinpoint the number of firms in the oligopolist market. There may be three, four or 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.
Price Determination under Oligopoly: We shall confine our study to the non-collusive oligopoly model of Sweezy, and to the collusive oligopoly models relating to cartels and price leadership. In his article published inProf.
Sweezy presented the kinked demand curve analysis to explain price rigidities often observed in oligopolistic markets. Sweezy assumes that if the oligopolistic firm lowers its price, its rivals will react by matching that price cut m order to avoid losing their customers.
Thus the firm lowering the price will not be able to increase its demand much. This portion of its demand curve is relatively inelastic. On the other hand, if the oligopolistic firm increases its price, its rivals will not follow it and change their prices.
Thus the quantity demanded of this firm will fall considerably. This portion of the demand curve is relatively elastic.
In these two situations, the demand curve of the oligopolistic firm has a kink at the prevailing market price which explains price rigidity. The kinked demand curve hypothesis of price rigidity is based on the following assumptions: There is no product differentiation.
Rather they will stick to the prevailing price and cater to the customers, leaving the price-raising seller. Given these assumptions, the price-output relationship in the oligopolist market is explained in Figure 1 where KPD is the kinked demand curve and OP0 the prevailing price in the oligopoly market for the OR product of one seller.
Starting from point P, corresponding to the current price OP1, any increase in price above it will considerably reduce his sales, for his rivals are not expected to follow his price increase. This is so because the KP portion of the kinked demand curve is elastic, and the corresponding portion KA of the MR curve is positive.
Therefore, any price-increase will not only reduce his total sale but also his total revenue and profit. On the other hand, if the seller reduces the price of the product below OPQ or Phis rivals will also reduce their prices.
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Though he will increase his sales, his profit would be less than before. The reason is that the PD portion of the kinked demand curve below P is less elastic and the corresponding part of marginal revenue curve below R is negative.
Thus in both the price-raising and price-reducing situations, the seller will be a loser. He would stick to the prevailing market price OP0 which remains rigid. It should be noted that with any cost reduction the new MC curve will always cut the MR curve in the gap because as costs fall the gap AB continues to widen due to two reasons: The net result is the same output OR at the same price OP0 and larger profits for the oligopolistic sellers.
In case the cost of production rises the marginal cost curve will shift to the left of the old curve MC as MC2. So long as the higher MC curve intersects the MR curve within the gap upto point A, the price situation will be rigid. However, with the rise in costs the price is not likely to remain stable indefinitely and if the MC curve rises above point A, it will intersect the MC curve in the portion KA so that a lesser quantity is sold at a higher price.
We may conclude that there may be price stability under oligopoly even when costs change so long as the MC curve cuts the MR curve in its discontinuous portion.
However, chances of the existence of price rigidity are greater where there is a reduction in costs than there is a rise in costs. We now explain price rigidity where there is a change in demand with the help of Figure 3, D2 is the original demand curve, MR2 is its corresponding marginal revenue curve and MC is the marginal cost curve.
Suppose there is decrease in demand shown by D1 curve and MR1 is its marginal revenue curve. This will tend to make the angle at L approach a right angle. The marginal cost curve MC will, therefore, intersect the lower marginal revenue curve MRX inside the gap EF, thus indicating a stable price for the oligopolistic industry.
But the output level falls from OQ2 to OQ1. This case can be reversed to show increase in demand by taking D2 and MR2 as the original demand and marginal revenue curves and D 2and MR2 as the higher demand and marginal revenue curves respectively.Given these assumptions, the price-output relationship in the oligopolist market is explained in Figure 5 where KPD is the kinked demand curve and OP o the prevailing price in the oligopoly market for the OR product of one seller.
Chapter 12/Price and Output Determination: Oligopoly This edition is intended for use outside of the U.S. only, with c ontent that may be different from the U.S. Edition. initiativeblog.com (3 YEARS COURSE) RECOMMENDATION The clause 6 of the ordinance for initiativeblog.com Three Years degree course be replaced by- Every candidate shall be examined in the following subjects.
Price and Output Determination Under Oligopoly: Definition of Oligopoly: Oligopoly falls between two extreme market structures, perfect competition and monopoly. Oligopoly occurs when a few firms dominate the market for a good or initiativeblog.com implies that when there are a small number of competing firms, their marketing decisions exhibit strong mutual interdependence.
PRICE DETERMINATION IN DIFFERENT MARKETS Unit 3 Price-output Determination Under Different we shall study the determination of price and output under perfect competition, monopoly, monopolistic competition and oligopoly. Output is supplied by individual firms on the basis of market demand and their cost and revenue functions.
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