Oligopoly summer 2011

Oligopoly summer 2011 - Chapter 11: oligopoly Oligopoly is...

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Chapter 11: oligopoly Oligopoly is characterized by having a small number of firms competing and natural or legal barriers preventing the entry of new firms. A. Small Number of Firms; “fewness” 1. Interdependence With only a small number of firms in a market, each firm’s actions influence the profits of the other firms. 2. Temptation to Collude To maximize profit, firms in an oligopoly might choose to form a cartel. A cartel is a group of firms acting together to limit output, raise price, and increase economic profit. Cartels are illegal in the United States. B. Barriers to Entry C. Identifying Oligopoly The key feature that determines whether a market is an oligopoly is whether the firms are interdependent. As a practical matter, a market in which the HHI exceeds 1,800 is usually an example of oligopoly. The Herfindahl- Hirschman Index ( HHI ) is calculated by squaring the market share of each firm in the market and then summing the resulting numbers.
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2 How Oligopolies Arise Barriers to entry Economies of scale Reputation Strategic barriers Legal barriers
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3 Barriers to Entry Economies of scale Natural oligopoly - the market tends naturally toward oligopoly A large firm supplies a large share of the market - lower cost per unit than a small firm Reputation Established oligopolists are likely to have favorable reputations Initial high advertising costs
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4 Barriers to Entry Strategic Barriers Excess production capacity Saturate the market Special deals with distributors Long-term arrangements with customers Spend large amounts on advertising Legal barriers Patents and copyrights; Lobby Zoning regulations
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Summary of Barrier to Entry Entry to Barriers “Legal Barriers” Limit Pricing – Selling below the short-term cost (Dumping) Patents Distribution Control Mergers and Acquisition Government Regulation Non-price competition – e.g. advertising, industry standard Training – e.g. high switching costs (key board, windows) “Illegal Barriers” Collusion or Cartels (e.g. explicit agreement on market share) Price Fixing 5
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The Game Theory Approach Strategic interdependence due to “fewness”: Anticipate the reactions of rivals when making decisions Game theory is the tool economists use to analyze strategic behavior— behavior that recognizes mutual interdependence and takes account of the expected behavior of others. A. What Is a Game? A game is defined by its rules, strategies, and payoffs. B. The Prisoners’ Dilemma The prisoners’ dilemma is a game between two prisoners that shows why it is hard to cooperate even when it would be beneficial to both players to do so. Two prisoners are caught committing a crime for which they must serve a 2-year sentence. The district attorney suspects they are the same criminals who committed an earlier crime. To get the criminals to confess to the earlier crime, the district attorney makes them play a game 6
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This note was uploaded on 08/30/2011 for the course MGE 302 taught by Professor Isse during the Fall '08 term at SUNY Buffalo.

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Oligopoly summer 2011 - Chapter 11: oligopoly Oligopoly is...

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