ECMC41:
Imperfect Competition (Oligopoly)
 Some Examples
Oligopoly refers competition amongst the few. So we are investigating a situation where
a small number of firms
are competing in a market. Not only is the number of these firms
limited it but we often also assume the firms are supplying an identical product
(i.e. their
output is viewed as perfect substitutes by consumers).
In such an environment we have competition
, that is, the firms’ look out for their own
best interest which means they do not cooperate. But at the same time given there are not
very many firms thus each firm possesses market power
. So we have
imperfect
competition
. Each firm is aware of its market power and that each of the other firms
possesses. So when undertaking their profit maximizing decision making each firm is
concerned with the decisions (strategies) that are likely to be employed by their rivals. As
such models of oligopolistic behavior focus a great deal of attention on
strategic
interaction
, that is, how one firm’s optimal behavior in equilibrium depends upon the
optimal behavior employed by rival firms.
Usual Environment:
•
•
Simultaneous moves
•
One shot game (i.e. not repeated over and over again)
•
Rationality (i.e. each player wants to maximizes their payoff/profits)
•
Identical output/products, i.e. in the eyes of consumers they are perfect substitutes
Other common, but not necessary assumptions include:
•
There are only two (n=2) firms. This is called
Duopoly
.
•
Further simplifying assumptions are often made about the cost structure of each
firm such as how simple/nice it is and whether the cost structure (technology)
employed by each firm differs at all from firm to firm.
•
Of course we must have an assumption of what market demand looks like.
Let us now look into this environment via several situations (or cases):
Case #1: Cournot Model – Symmetric Costs
This is a quantity picking game. In a Cournot game the firms pick their optimal level of
output given
a guess/forecast of the level of output their rivals will make. Thus each
firm’s optimal level of production depends on (is a function of) the level of production
(strategy employed by) the other firms (i.e. strategic interaction).
Cournot Conjecture
: When deciding on their optimal level of output firms assume
that the other firms will not choose to vary their level of production once all of the
firms (optimal) production decisions are announced.
If we all announce proper/rational (equilibrium) strategies (production plans or output
levels) based on fair expectations
of what other firms will produce then in equilibrium no
1 
P a g e
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View Full Documentfirm will want to deviate from these announced plans (i.e. no firm can earn higher profits
by switching plans after all these production plans have been announced). Such a set of
strategies where each player is playing their best response given the play being played by
their rivals in the game is called a
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 Summer '10
 JackParkinson
 Game Theory, Firm, best response, Cournot, Cournot Duopoly Market

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