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UNIT IV
Pricing under factors of production; wages - Marginal productivity theory - Interest Keyne's Liquidity preference theory – Theories of Profit - Dynamic theory of Profit - Risk
Theory - Uncertainty theory.
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PART A
1) Define Monopoly and Oligopoly?
They are the conditions or situations in the market. Monopoly occurs when there is only
one supplier in the market. Duopoly occurs when there are only two suppliers, and oligopoly is
when there are only a few suppliers in the market.
PART B
1) Explain Oligopoly?
An oligopoly is a market dominated by a few large suppliers. The degree of market
concentration is very high (i.e. a large % of the market is taken up by the leading firms). Firms
within an oligopoly produce branded products (advertising and marketing is an important
feature of competition within such markets) and there are also barriers to entry.
Another important characteristic of an oligopoly is interdependence between firms.
This means that each firm must take into account the likely reactions of other firms in the
market when making pricing and investment decisions. This creates uncertainty in such
markets - which economists seek to model through the use of game theory.
2) Quote key features of oligopoly
* A few firms selling similar product
* Each firm produces branded products
* Likely to be significant entry barriers into the market in the long run which allows firms to
make supernormal profits.
* Interdependence between competing firms. Businesses have to take into account likely
reactions of rivals to any change in price and output
3) What are theories about oligopoly pricing?
There are four major theories about oligopoly pricing:
(1) Oligopoly firms collaborate to charge the monopoly price and get monopoly profits
(2) Oligopoly firms compete on price so that price and profits will be the same as a competitive
industry
(3) Oligopoly price and profits will be between the monopoly and competitive ends of the scale
(4) Oligopoly prices and profits are "indeterminate" because of the difficulties in modelling
interdependent price and output decisions.
PART C
1)Explain the Price and Output Determination Under 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 service. This
implies that when there are a small number of competing firms, their marketing decisions
exhibit strong mutual interdependence. By mutual interdependence we mean that a firm's action
say of setting the price has a noticeable effect on its rival firms and they are likely to react in the
some way. Each firm considers the possible reaction of rivals to its price and product
development decisions
Price and Output Determination Under Oligopoly:
There is not a single theory which satisfactorily explains the pricing and output decisions under
duopoly or oligopoly. The reasons are:
(i) The number of firms, dominating the market vary. Sometimes there are only two or three
firms which dominate the entire market (Tight oligopoly). At another time there may be 7 to 10
firms which capture 80% of the market (loose oligopoly).
(ii) The goods produced under oligopoly may or may not be standardized.
(iii) The firms under oligopoly sometime cooperate with each other in the fixing of price and
output of goods. At another time, they prefer to act independently.
(iv) There are situations also where barriers to entry are very strong in oligopoly and at another
time, they are quite loose.
(v) A firm under oligopoly cannot predict with certainly the reaction of the rival firms, if it
increases or decreases the prices and output of its goods. Keeping in view the wide range of
diversity of market situations, a number of models have been developed explaining the behaviour
of the oligopolistic firms.
Causes of Oligopoly:
The main reasons which give rise to oligopoly are as follows:
(i) Economies of scale: If the productive capacity of a few firms is large and are able to capture
a greater percentage of the total available demand for the product in the market, there will then
be a small number of firms in an Industry. The firms in the industry with heavy investment,
using improved technology and reaping economies of scale in production, sales, promotion, etc.,
will compete and stay in the market. The firms using outdated machinery and old techniques of
production will not be able to compete with the low unit costs producing firms and eventually
wipe out from the industry. Oligopoly is, thus, promoted due to the economies of scale.
(ii) Barriers to entry: In many oligopolies, the new firms cannot enter the industry as the big
firms have ownership of patents or control over the essential raw material used in the production
of an output. The heavy expenditure on advertising by the oligopolistic industries may also be a
financial barrier for the new firms to enter the industry.
(iii) Merger: If the few firms in the industry smell the danger of entry of new firms, they then
immediately merge and formulate a joint policy in the pricing and production of the products.
The joint action of a few big firms discourage the entry of new firms into the industry.
(iv) Mutual interdependence: As the number of firms is small in an
oligopolistic industry, therefore, they keep a strict watch of the price charged by rival firms in the
industry. The firm generally avoid price war and try to create conditions of mutual
interdependence.
Characteristics of Oligopoly:
The main characteristics of oligopoly are as follows:
(i) Small number of firms: Oligopoly is a market structure characterized by a few firms. These
handful of firms dominate the industry to set prices.
{ii} Interdependence: All firms in an industry are mostly interdependent. Any action on the part
of one firm with respect to output, quality product differentiation can cause a reaction on the part
of other firms.
(iii) Realization of profit:Oligopolists firms are often thought to realize economic profits.
Whenever there are profits, there is incentive for entry of new firms. The existing firms then try
to obstruct entry of new firms into the industry.
(iv) Strategic game: In an oligopolistic market structure, the entrepreneurs of the firms are like
generals in a war. They attempt to predict the reactions of rival firms. It is a strategy game which
they play.
2) Write a note on the importance of price and non-price competition?
Firms compete for market share and the demand from consumers in lots of ways. We
make an important distinction between price competition and non-price competition. Price
competition can involve discounting the price of a product (or a range of products) to increase
demand.
Non-price competition focuses on other strategies for increasing market share. Consider the
example of the highly competitive UK supermarket industry where non-price competition has
become very important in the battle for sales
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Mass media advertising and marketing
Store Loyalty cards
Banking and other Financial Services (including travel insurance)
In-store chemists / post offices / creches
Home delivery systems
Discounted petrol at hyper-markets
Extension of opening hours (24 hour shopping in many stores)
Innovative use of technology for shoppers including self-scanning machines
Financial incentives to shop at off-peak times
Internet shopping for customers
PRICE LEADERSHIP IN OLIGOPOLISTIC MARKETS
When one firm has a dominant position in the market the oligopoly may experience price
leadership. The firms with lower market shares may simply follow the pricing changes prompted
by the dominant firms. We see examples of this with the major mortgage lenders and petrol
retailers.