 Oligopolistic Market

A market situation where the number of big sellers of a commodity is less and the
number of buyers is more is known as Oligopoly Market. The sellers in the
oligopoly market sell differentiated or homogeneous products. As the number of
sellers in this market is less, the price and output decision of one seller impacts
the price and output decision of other sellers in the market.
For example, luxury car producers like BMW, Audi, Ford, etc., come under the
Oligopoly Market, as the number of sellers of luxury cars is less and its buyers are
more.

Key Takeaways:
1. Oligopolistic firms often engage in product differentiation strategies to
distinguish their products from competitors and gain a competitive edge.
2. Oligopolistic markets typically have high barriers to entry, such as
economies of scale, high capital requirements, or control over essential
resources.
3. Oligopolies may engage in collusion, where firms cooperate to fix prices,
limit production, or allocate market share.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
 4. Oligopolistic firms often compete on factors other than price, such as
product quality, customer service, innovation, and marketing.

Types of Oligopoly
1. Pure or Perfect Oligopoly: If the firms in an oligopoly market manufacture
homogeneous product, then it is known as a pure or perfect oligopoly. Even
though it is rare to find oligopoly firms with homogeneous products, industries
like steel, cement, aluminum, etc., come under pure oligopoly.
2. Imperfect or Differentiated Oligopoly: If the firms in an oligopoly market
manufacture differentiated products, then it is known as an imperfect or
differentiated oligopoly. For example, talcum powders are produced by different
firms and have differentiated characteristics, yet all the talcum powders are close
substitutes for each other.
3. Collusive Oligopoly: Collusive Oligopoly, also known as Cooperative Oligopoly, is
a market where different firms cooperate with each other to determine the
output or price, or both price and output of products.
4. Non-Collusive Oligopoly: If the firms in an oligopoly market compete with each
other, then it is known as a Non-Collusive Oligopoly.
What is Duopoly?
A special case of oligopoly in which there are two sellers, and it is also assumed
that both the firms sell homogeneous products and there is no substitute for the
product. For example, Pepsi and Coca-Cola are two firms selling soft drinks, which
are homogeneous in nature and do not have a substitute.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
 Features of Oligopoly
1. Few Firms: There are few firms under an oligopoly market whose number is not
exactly defined. But, each of the firms under this market produces a significant
part of the total output. Each of the firms in the oligopoly market competes with
each other severely and tries to manipulate their product's price and volume to
outsmart each other. Also, the number of firms in the market is so small that the
action of one firm affects the rival firms. Therefore, every firm keeps an eye on the
actions/activities of other rival firms. For example, the automobile industry in
India comes under Oligopoly Market.
2. Non-Price Competition: The firms under an oligopoly market can influence the
price of the product; however, they try to avoid such influence as it can start a
price war, which none of the firms wants. In other words, if one firm tries to
reduce the price of their product, then the other firms will also have to reduce the
price, and vice-versa because of which the firm can lose its customers, ultimately
intended to increase the price. Therefore, these firms follow the policy of price
rigidity, and hence prefer non-price competition. oo, to compete with each other,
the firms use different methods other than pricing, such as after-sales services,
advertising, etc.
Price rigidity is a situation in which the price of the product tends to stay the same
or fixed irrespective of the changes in supply and demand of those products.
3. Interdependence: The firms under an oligopoly market are interdependent,
which means that the actions of one firm affect the actions of other firms. Every
firm in this market considers the actions and reactions of their rival firms before
deciding the price and output level of their products. A change in the price or
output of one firm changes the reaction of other firms operating in the same
market. For example, if Maruti makes any change in the price of its cars, then its
rival firms such as Tata, Hyundai, etc., will also have to make respective changes in
their activities.
4. Barriers to Entry of Firms: There are only a few firms under oligopoly because
of the barriers to the entry of the new firms in this market. The new firms prevent

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
themselves from entering into the oligopoly market because of the large capital
requirement, patents requirement, and many other factors. Therefore, the new
firms, which can cross these barriers enter the market, which results in earning
abnormal profits in the long run.
5. Role of Selling Costs: oelling cost is the cost spent on the advertisement, sales
promotion, and marketing of the product. As there is severe competition and
interdependence among the firms, they take help of selling costs to sell their
product in the market. Therefore, the firms under oligopoly market focus more on
their advertisements and other sales promotion techniques. The role of selling
costs in the sale of products is more than its role in a monopolistic competition
market.
6. Nature of the Product: The firms under oligopoly market may produce
differentiated or homogeneous products. The firms producing homogeneous
products are known as pure oligopolies. Whereas, the firms producing
heterogeneous products are known as imperfect oligopolies.
7. Group Behaviour: The firms under oligopoly market are completely
interdependent on each other; therefore, any change in the price and output of
one firm influences the other competing firms. Therefore, to avoid price wars,
these firms prefer to decide the price of their product by making a group decision
so that it can benefit all of these firms.
Group behaviour here means that the firms in this market behave like they are
one single firm even though they retain their interdependence on an individual
basis.
8. Kinked Demand Curve: Oligopoly firms have a kinked Demand Curve (Average
Revenue Curve) of all the firms in the market, that is Demand curve of the firm is
elastic above the price set by the firm at P1 and then inelastic below the price set
by the firm.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
Theories of Oligopoly:
1. Cournot Model:
The Cournot model is an economic model used to describe an industry structure
where firms compete on the quantity of output they produce, rather than on
price. It was developed by French mathematician Augustin Cournot in 1838.
Key Features of the Cournot Model:
1. Oligopoly Market:
o Few firms dominate the market (usually two in a duopoly).
o Each firm chooses its output level simultaneously, assuming the other
firm's output is fixed.
2. Profit Maximization:
o Firms aim to maximize profits by selecting an optimal quantity,
considering the rival's output.
3. Reaction Functions:
o Each firm has a best-response function, showing how much it should
produce based on the competitor's output.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
 o Equilibrium occurs where these reaction functions intersect (Cournot-
Nash Equilibrium).
4. Equilibrium Outcome:
o Firms produce more than a monopoly but less than perfect
competition.
o If there are n firms in the industry, each will provide 1/(n + 1) of the
market, and the industry output will be n/(n + 1) = 1/(n + 1) · n.
o Prices and profits are higher than in perfect competition but lower
than in a monopoly.
Assumptions:
 Homogeneous (identical) products.
 Firms decide quantities simultaneously.
 No collusion (each acts independently).
 Constant marginal costs.
Example (Duopoly):
 If Firm A increases output, the market price falls, affecting Firm B’s profits.
 In equilibrium, neither firm can gain by unilaterally changing output.
Comparison with Other Models:
 Bertrand Model: Firms compete on price rather than quantity.
 otackelberg Model: One firm (leader) sets output first, and the follower
reacts.
Conclusion:
The Cournot model shows how firms in an oligopoly strategically interact to
determine output levels, leading to a stable equilibrium where no firm has an
incentive to deviate.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
2. Bertrand Model:
The Bertrand model is an economic model that describes an industry structure
where firms compete by setting prices rather than quantities. It was developed by
French economist Joseph Bertrand in 1883 as a critique of the Cournot model.
Key Features of the Bertrand Model:
1. Oligopoly Market:
o Few firms (usually two in a duopoly) selling identical (homogeneous)
products.
o Firms simultaneously choose prices rather than quantities.
2. Price Competition:
o Consumers buy from the firm offering the lowest price.
o If firms set the same price, they split the market equally.
3. Profit Maximization:
o Firms aim to undercut each other’s prices to capture the entire
market.
o This leads to a "price war" until prices fall to marginal cost (MC).
4. Equilibrium Outcome (Bertrand-Nash Equilibrium):
o In equilibrium, both firms set price = marginal cost (P = MC).
o Firms earn zero economic profit (similar to perfect competition).
o Unlike Cournot, the Bertrand model predicts highly competitive
outcomes even with few firms.
Assumptions:
 Homogeneous (identical) products.
 Firms set prices simultaneously.
(Prepared By: Vaibhav Oberoi,
B.Com (H) SRCC, LL.B DU)
  No collusion (firms act independently).
 Constant marginal costs.
 Consumers have perfect information and buy from the cheapest seller.
Example (Duopoly):
 If Firm A sets a price slightly below Firm B, it captures the entire market.
 Firm B then has an incentive to undercut Firm A, leading to a downward
spiral until P = MC.
Comparison with Other Models:
 Cournot Model: Firms compete on quantity; prices remain above MC.
 otackelberg Model: One firm (leader) sets output first, and the follower
reacts.
Conclusion:
The Bertrand model demonstrates that price competition in oligopolies can lead
to perfectly competitive outcomes (P = MC) even with few firms, contrasting with
the Cournot model. However, real-world deviations (product differentiation,
capacity limits) often soften this result.
Key Takeaway:
 Cournot: Firms compete on quantity → Prices between monopoly and
perfect competition.
 Bertrand: Firms compete on price → Prices drop to marginal cost (zero
economic profit).
3. Stackelberg Model:
The otackelberg model is an economic model that describes an industry structure
where firms compete sequentially in quantities, with one firm acting as
the leader and others as followers. It was developed by German
economist Heinrich otackelberg in 1934 as an extension of the Cournot model.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
Key Features of the otackelberg Model:
1. Oligopoly Market (Leader-Follower otructure):
o One dominant firm (leader) sets its output first.
o Other firms (followers) observe the leader's output and react
optimally.
2. oequential Decision-Making:
o Unlike Cournot (simultaneous moves), firms act in a sequence:
1. Leader chooses output to maximize profit, anticipating the
follower's reaction.
2. Follower takes the leader's output as given and optimizes its
own production.
3. Profit Maximization:
o The leader incorporates the follower's reaction function into its
decision.
o Followers behave like Cournot firms but adjust to the leader's pre-
committed output.
4. Equilibrium Outcome (otackelberg-Nash Equilibrium):
o The leader produces more than in Cournot equilibrium, gaining a
"first-mover advantage."
o The follower produces less than in Cournot.
o Market output is higher than in Cournot but lower than in perfect
competition.
o Prices are lower than in Cournot but higher than in perfect
competition.
Assumptions:
 Homogeneous (identical) products.
(Prepared By: Vaibhav Oberoi,
B.Com (H) SRCC, LL.B DU)
  Firms compete on quantity (not price, unlike Bertrand).
 Leader has perfect information about the follower's reaction.
 No collusion; firms act independently.
 Constant marginal costs (for simplicity).
Example (Duopoly):
 Leader (Firm A): Chooses output QAQA to maximize profit, knowing Firm B
will react.
 Follower (Firm B): Observes QAQA and sets QBQB using its Cournot reaction
function.
 Outcome: Firm A produces more, earns higher profits; Firm B produces less,
earns lower profits.
Comparison with Other Models:
 Cournot Model: Firms choose quantities simultaneously; symmetric
outcomes.
 Bertrand Model: Firms compete on price; leads to P = MC.
 otackelberg Model: oequential moves; leader exploits first-mover
advantage.
Conclusion:
The otackelberg model highlights the strategic advantage of being the first
mover in quantity competition. The leader earns higher profits by influencing the
follower's decisions, while the follower acts as a "Cournot firm" in the residual
market.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
Nash Equilibrium
Nash Equilibrium is a concept in game theory where, in a strategic interaction
between multiple players, no player can benefit by unilaterally changing their
strategy while the other players keep theirs unchanged.
Key Features:
1. Optimal Given Others' Choices:
o Each player's strategy is the best response to the strategies of others.
o No incentive to deviate alone.
2. Not Necessarily the Best Collective Outcome:
o Players may end up in a suboptimal outcome (e.g., Prisoner’s
Dilemma).
o It’s about individual rationality, not group efficiency.
3. Applies to Non-Cooperative Games:
o Players act independently (no binding agreements).
Example (Prisoner’s Dilemma):

Confess (Betray) Stay Silent (Cooperate)

Confess (-5, -5) (0, -10)

Stay Silent (-10, 0) (-1, -1)

 Nash Equilibrium: Both confess (even though mutual silence is better

collectively).
 Why? If one stays silent, the other can gain by confessing.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)
Applications:
 Economics (Oligopoly pricing, auctions).
 Politics (Voting strategies).
 Biology (Evolutionary stable strategies).
Limitation:
 Doesn’t guarantee efficiency (e.g., in the Prisoner’s Dilemma, both lose).
 Multiple equilibria may exist.

(Prepared By: Vaibhav Oberoi,

B.Com (H) SRCC, LL.B DU)