Understanding Oligopoly and Kinked Demand

Oct 3, 2024

Mindmap

Oligopoly and the Kinked Demand Curve Model

Introduction

  • Focus on the Kingdom Demand Curve model for studying oligopoly.
  • Characteristics of oligopoly, kinked demand curve diagram, and conclusions drawn.
  • Part one of oligopoly study; game theory will be covered in the next session.

Characteristics of Oligopoly

  • Few Dominant Firms: High concentration ratio; no more than seven firms with 70% market share.
  • Differentiated Goods: Price makers due to unique goods.
  • High Barriers to Entry and Exit: Significant startup costs, economies of scale, sunk costs, and strong brand loyalty.
  • Interdependence: Firms consider rivals' actions and reactions, leading to non-independent decision-making.
  • Price Rigidity: Prices are sticky; more non-price competition.
  • Profit Maximization Not Sole Objective: Focus on market share and potential monopoly power.

Real-Life Examples of Oligopoly

  • Global Examples:
    • Soft drink industry (Coca-Cola and Pepsi)
    • Global car industry
    • OPEC (Petroleum Exporting Countries)
  • UK Examples:
    • Supermarket industry
    • Energy industry
    • Supermarket fuel providers
    • Bus and airline markets

The Kinked Demand Curve Model

  • Illustrates Interdependence: Demonstrates price rigidity.
  • Price Elasticities Around P1:
    • Above P1: Price elastic demand curve.
    • Below P1: Price inelastic demand curve.
  • Price Change Implications:
    • Raising price above P1 leads to loss of market share.
    • Lowering price to P3 leads to no gain in market share and decreased total revenue.
  • Price Rigidity Conclusion: Firms avoid changing prices due to interdependence.

Marginal Revenue Curve and Cost Changes

  • Vertical Gap in Marginal Revenue Curve: Firms charge price P1 irrespective of minor cost changes within the gap.
  • Profit Maximizing Behavior: MC equals MR results in constant price of P1 even with cost fluctuations.

Conclusions from the Kinked Demand Curve

  • Possibility of Price Competition: Despite irrationality, firms might still engage in price wars.
  • Prevalence of Non-Price Competition: Branding, advertising, and quality become the focus.
  • Temptation to Collude: Frustration from interdependence may lead to collusion to act like a monopoly.

Upcoming Study

  • Next video will cover the use of game theory to further explore oligopoly behavior.

This summary captures the key points of the lecture on the kinked demand curve model in oligopoly, focusing on characteristics, real-life examples, price rigidity, and the implications of the model.