469-12 - CHAPTER 12 - OLIGOPOLY Oligopoly: Market or...

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CHAPTER 12 - OLIGOPOLY Oligopoly: Market or industry dominated by a small number of firms, whose decisions (price, output, marketing) are interdependent. Firms in oligopolistic markets face strategic decision-making, and must constantly take into account the behaviors and reactions of its rivals. In contrast, a) a pure monopoly does not have competitors to worry about; and b) under perfect competition, each firm is so small relative to the market, industry price and output are set by supply and demand, so that a firm's competitive options are strictly limited. Example: an individual farmer raising corn or producing milk. Under oligopoly, a firm's profits depend on its own actions and the actions/reactions of rivals. Firms must engage in interactive or strategic thinking. For example, think of strategic decision-making at Northwest Airlines, GM, Sprint, Burger King, etc. Issues: What is a "small" number of firms? How to measure the degree of oligopoly, concentration? Concentration Ratio (CR): One measure of industry concentration, see p. 474-475, Table 12.1. CR 4 = % of Total Industry Sales accounted for by the four largest firms. CR 8 = % of Total Industry Sales accounted for by the eight largest firms. CR 20 = % of Total Industry Sales accounted for by the twenty largest firms, etc. The higher the CR, the greater the degree of market power by a small number of firms. Benchmarks: Effective Monopoly: CR 1 > 90% (only 2-3% of GDP) Effectively Competitive: CR 4 < 40% (top four firms have individual markets shares averaging less than 10%). 75% of GDP Loose Oligopoly: 40% < CR 4 < 60% (monopolistic competition) 12% of GDP Tight Oligopoly: CR 4 > 60% (10% of GDP) Limitations of CR (Census Bureau data): 1. What is the relevant "market," and is it a broad or narrow? The more broadly (narrowly) defined the market is, the lower (higher) the CR. For example, is Coca-Cola in the "soft drink" market (narrow), or in the "beverage" industry (broad). Is Alcoa in the "aluminum" industry or the "metal" industry? Is Budweiser in the "beer" industry or the "adult beverage" industry? The relevant market has been an issue in the Microsoft case. Is the market "information appliances" or "single-user, Intel-based desktop computers?" Experts now forecast that there will soon be more non- PC Internet devices (hand-held and notebook-style information appliance devices) sold than PCs, so ECN 469: Managerial Economics – CH 12 Professor Mark J. Perry 1
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that even if Microsoft had 100% of the PC market, they would only have 50% of the "information appliance" market. In finding that Microsoft was a "monopolist," the judge defined the market as "single-user IBM clones," for which Microsoft has about a 88% market share, competing against Mac (5% market share) and Linux (4%). However, Microsoft's market share is declining in that narrow market, as new products are coming on the market, like Unix-based Mac OS X. And this "market" ignores the workstation market and the handheld market, where Microsoft has less than 50% of the market. 2. CR is based on the national economy, not the regional economy, and does not capture local
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469-12 - CHAPTER 12 - OLIGOPOLY Oligopoly: Market or...

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