Oligopoly is a market system that is intermediate between monopoly and perfect competition. It is a type of market that is dominated by only a number of firms. These firms control the prices of the commodities they sell and the industry they dominate is characterized by significant barriers to entry.
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Oligopolistic markets are also characterized by similarities of the products they sell and thus the firms practicing oligopoly are normally interdependent in terms of policy formulation and competition strategies. The competition strategies are normally meant to make the minor differences in their products attractive to their customers so that the particular firm may have a competitive edge. Examples of oligopoly markets here in the United States are the automobile and the steel industry (Friedman 11 – 14).
Since oligopoly is characterized by a few numbers of firms in the industry, each individual firm must predict the response of rival firms before it formulates output or pricing strategies. This leads to the aforementioned interdependence and thus the firms are forced to engage in what is termed as non-price competition.
This kind of competition involves differentiation of virtually similar products by using means that are not price-based for fear of price wars. Therefore, companies achieve their competitive advantage by investing in promotions, improvement of the quality of their goods and services, offering of special services like delivery, provision of their goods/services at locations that are convenient for the consumers etc (Hannaford 1).
Firms in oligopoly markets also practice price discrimination to maximize on their profits or win a larger proportion of the customer base. As mentioned earlier, the firms in oligopoly engage in the manufacture and/or sale of goods that are not easy to manufacture.
The goods may be difficult to manufacture due to large capital requirement like in the automobile industry, unavailability of raw materials like in the steel industry, etc. The above stated reasons act as barriers to entry together with a number of other factors. Since the products are normally of high value, the industry is characterized with a high elasticity of demand.
It is this elasticity of demand that makes price discrimination possible in these markets. For instance, different people pay different amounts of money for the same car depending on the amount they are willing to pay for the car and their skills in bargaining. The above described price discrimination is one of three possible price discrimination strategies. It is known as first degree price discrimination. The other price discrimination strategies used by oligopoly markets are second and third degree price discrimination.
Second degree price discrimination involves charging of higher prices for larger quantities of goods while third degree price discrimination is the most common and it depends on the firm’s understanding of its market. The latter takes many different forms and it is the one commonly used for achievement of competitive advantage by oligopolies (Pietersz 1). Some of the possible forms it may take include the ranking of customers into groups depending on their income and selling goods to different groups at different prices.
The competitive strategies used by oligopoly markets have a lot of effects on the industry. For instance, price discrimination leads to the reduction of consumer surplus and thus it negatively affects the welfare of the consumer. On the other hand, the extraction of consumer surplus makes the firms make supernormal profits which are in the interests of the firms.
Such price discrimination is, therefore, advantageous to the firms since the primary concern of any business enterprise is profit maximization. Some firms may also set prices below cost for some customers in a bid to have a competitive edge in terms of market share. This kind of price discrimination will be advantageous to the consumers and disadvantageous to the suppliers. Similarly, non-price competition has a lot of influence on consumer behavior in an oligopoly market.
Consumers tend to prefer goods that have been promoted and those that are convenient in terms of delivery or those goods, whose minor details, like color, match the preferences of the consumers. Non-corporative strategic behavior also has numerous effects on the industry. It mostly results to unhealthy competition between the involved firms and tends o be advantageous to the consumers (Friedman 19).
As evidenced in the discussion above, oligopolistic firms have a major challenge in laying down competitive strategies and policies. This is because price competition in this industry is disastrous and can, possibly, drive all the firms out of business. The firms also sell virtually identical products and this magnifies the difficulty that they face in achieving a competitive edge.
As mentioned earlier, the firms settle for competition strategies like non-price competition, non-corporative strategic behavior etc. This is normally due to the interdependence of the firms. These competition strategies have the aforementioned injurious and beneficial effects on the consumers and the suppliers. It is therefore of, essence, that oligopolistic firms set policies and competitive strategies that are beneficial to both the firms and their consumers.
Friedman, James. Oligopoly Theory. New York. Barnes & Noble.
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Hannaford, Steve. “Oligopoly Watch.” 2007- May 10, 2010. Web.
Pietersz, Graeme. “Oligopoly.” 2006- May 10, 2010, <https://moneyterms.co.uk/oligopoly/>