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Lecture_23_Oligopoly_and_Mono_Comp

Lecture_23_Oligopoly_and_Mono_Comp - Lecture 23 Oligopoly...

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Lecture 23: Oligopoly and Monopolistic Competition c ° 2008 Je/rey A. Miron Outline 1. Introduction 2. Oligopoly: Choosing a Strategy 3. Quantity Leadership 4. Price Leadership 5. Simultaneous Quantity Setting 6. Simultaneous Price Setting 7. Collusion 8. Punishment Strategies 9. Monopolistic Competition and Product Di/erentiation 1 Introduction So far we have examined two distinct market structures: pure competition and monopoly. These are interesting in part because they occasionally apply to speci°c markets, but even more because they are useful theoretical benchmarks. Most markets, however, lie between the two extremes of pure competition and pure monopoly, so we now examine models that apply in those settings. One alternative ±between²pure competition and pure monopoly is monopolistic competition, which we discuss at the end of this lecture. The other alternative is oligopoly, which means a market with a ±small²number of °rms. Oligopoly also usually implies that entry is di¢ cult or impossible. 1
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In oligopolistic settings, it turns out that strategic considerations are critical. Firms recognize the interaction between their own decisions, other °rms³decisions, and the equilibrium outcome. Under these conditions, it is necessary to consider a range of di/erent models, since °rms might behave in many ways in an oligopolistic environment. The set of models provides a guide to possible behavior patterns, though the real world applications are not as clean as one might like. To keep things simple, we mainly restrict the analysis to industries with two °rms (duopoly) and assume away both entry and product di/erentiation. These are restrictive assumptions, but the models get complicated quickly, so simpli°cation is necessary as a starting point. We consider extensions where possible. 2 Oligopoly: Choosing a Strategy If a market has two °rms, the four variables of interest are price and quantity for each °rm. The market could operate sequentially ´that is, one °rm makes a decision and then the other responds ´or simultaneously ´°rms make decisions at the same time, without knowing what the other °rm is going to do. Also, the ±decision²could be a choice of quantity to produce, with the demand curve and the other °rm³s action determining price, or it could be a choice of a price, with the demand curve and the other °rm³s action determining quantity. So, it makes sense to consider at least four possible strategic situations: quantity leadership, price leadership, simultaneous quantity setting, and simultaneous price setting. Still another possibility is that °rms collude. We will address this below. 2
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3 Quantity Leadership Consider °rst a model in which one °rm makes a quantity choice before the other.
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