CHAPTER 12 : OLIGOPOLY MARKET
(A) Oligopoly Problem: Monopoly and Competition
are two extreme forms of market under traditional analysis. Between
these two forms there are other possibilities such as Oligopoly
and Duopoly. When there are only a few producers or sellers the
market is said to be an oligopoly. With one or more requirements
of perfect competition missing or weak the market assumes a certain
degree of imperfection. The number of firms may not be sufficiently
large or the freedom of entry may not be fully available or knowledge
about the market conditions may be inadequate or the factors of
production may not be fully mobile. All such causes create market
imperfections. Oligopoly and Duopoly are the result of a small number
of producers. This is Quantitative Imperfection. Economic
theory finds it difficult to find a solution to oligopoly or duopoly
markets. This is because of the fact that with the presence of a
few producers there is bound to be stiff rivalry among producers.
This may cause endless price-cutting tendencies. As a result of
this stable equilibrium solution may not be possible. Such a suspicion
is unfounded since in reality oligopolists and duopolists do exist
and perform successfully.
(B) Renewed Efforts: Though some economists
fear instability in oligopolistic markets, efforts are made from
time to time to analyze them. The earliest work in this respect
is that of French economist, Cournot (1834). Since then Bertrand,
Edgeworth, Stackelberg, Hall-Hitch, Chamberlin
and others have produced different equilibrium models. The main
difficulty that arises in this respect is about appropriate assumptions
about behaviors and reactions of the rivals. Economists do not have
adequate information on this subject. The latest work in this respect
is that of Paul Sweezy. His model is based on a new tool
of analysis that he has introduced. It is in the form of a Kinked
Demand Curve. This has become a popular part of oligopoly analysis.
(C) Kinked Demand Curve: The demand or average
revenue curve used in this analysis is Kinked. It has a Kink
or a knot. The demand curve is not a smooth straight line
but has two segments with a varying degree of flexibility or slope.
Before we present the Kinked Demand Curve let us begin with its
underlying assumptions. Sweezy has made the following two assumptions:
i) If the firm reduces its price the producer expects other competitors to introduce a similar price cut; the market demand will increase but the share of the firm will remain unaltered.
ii) If the firm raises the price then other competing firms will not follow the price rise. There will be a very small rise in demand but a significant reduction in the sales of the firm.
The two assumptions suggest that neither a fall nor a rise in price would benefit the firm. Oligopoly price is rigidly fixed. Moreover, such a price rigidity causes a Kink in the demand curve with its lower segment steeper or inelastic and its upper segment flatter and more flexible. Consequently there is no incentive to alter price under oligopoly. This will be clearer when explained with the help of a figure.