Oligopoly and Competition Overview

Interdependent Behavior

• Oligopolists are generally large firms with similar products, meaning their actions impact the entire industry.
• If one firm innovates successfully, others have to follow suit to avoid losing customers.
• The iPhone notch's introduction by Apple became a design standard adopted by other smartphone makers.

How Oligopolies Compete

• Oligopolists engage in non-price competition by improving their products and using extensive advertising.
• Interdependent behavior can lead to collusion, a formal agreement to control prices, limit output, or divide markets.
• Price-fixing, an illegal form of collusion, involves agreeing to sell products at specific prices.

Profit Maximization in Oligopolies

• Oligopolists maximize profits where marginal cost (MC) equals marginal revenue (MR).
• Due to expensive non-price competition and limited competitors, final product prices in oligopolies are higher compared to monopolistic competition.

Monopoly

• A monopoly is a market structure where a single producer dominates an industry.
• While rare today, monopolies were more common in the past under laissez-faire policies.
• The US historically dislikes monopolies and attempts to outlaw them.
• New technologies often challenge existing monopolies.

Types of Monopolies

• Natural Monopoly: A single firm can produce more cheaply than any competitor, effectively controlling the industry (e.g., electricity distribution).
• Geographic Monopoly: The absence of other firms in a specific area makes one seller the sole option (e.g., a gas station in a remote town).
• Technological Monopoly: Ownership or control of a specific manufacturing method or process creates exclusivity (e.g., a pharmaceutical company with a patented drug).
• Government Monopoly: The government owns and operates it, providing products or services the private sector cannot handle (e.g., postal services).

Profit Maximization in Monopolies

• Monopolists maximize profit where marginal cost (MC) equals marginal revenue (MR).
• Monopolies often charge higher prices and supply smaller quantities compared to other market structures due to their size and lack of competition.
• This higher price and reduced output demonstrate the inefficiency of a monopoly.

Market Failures

• A market failure happens when the market system cannot efficiently allocate resources.

5 Main Reasons for Market Failures

• Not Enough Competition: Mergers and combinations create fewer, larger firms, reducing competition and efficient resource use.
• Spillovers (Externalities): Spillover effects are benefits or harms experienced by those not directly involved in an activity.
  • Positive Spillover: Benefits received by those uninvolved (expanding flight routes benefits the families of flyers who want to spend more time with them).
  • Negative Spillover: Uncompensated harm or cost experienced by uninvolved parties (expanding flight routes causes excessive noise to neighborhoods).
• Public Goods: Goods that are non-excludable (cannot prevent anyone from enjoying them) and non-rivalrous (one person's use doesn't diminish another's).
• Lack of Information: Incomplete or misleading information impairs informed decision-making and efficient resource allocation.
• Inequity: The market might produce unequal distribution of income or wealth, leading to social problems.

3 Ways to Deal with Spillovers

• Taxing Harmful Spillovers: Impose taxes on producers of harmful spillovers to increase their production costs, making the product more expensive and reducing consumption, leading to more efficient resource allocation.
• Subsidizing Helpful Spillovers: Provide subsidies to encourage firms to produce beneficial goods and services.
• Using Cost-Benefit Analysis: Evaluate the costs and benefits of different projects to identify those with the highest benefit-to-cost ratio.

A Role for Government

• Government intervention is crucial when dealing with both positive and negative spillover effects.
• Imposing individual charges for spillovers on firms is impractical due to their widespread nature.
• Therefore, governments use general laws, taxes, and subsidies on a larger scale to address spillover issues across the market.

7.3 The Role of Government

• Maintain a competitive market by ensuring competition.

3 Ways to Maintain a Competitive Market

• Breaking Up Monopolies:
• Trusts (combinations of firms designed to restrict competition) were a threat to competition in the late 1800s.
• The Sherman Antitrust Act (1890) was passed to protect trade and commerce, and Standard Oil (controlling 90% of the domestic oil industry) was sued and broken up into 34 separate companies in 1911.
• Preventing Monopolies from Forming:
• The Clayton Antitrust Act outlawed price discrimination.
• The Federal Trade Commission Act enforced the Clayton Act and established the Federal Trade Commission (FTC) to issue cease and desist orders.
• Promoting Competition and Efficiency:
• The government intervenes to address societal needs and maintain market competitiveness by preventing anti-competitive behavior and promoting efficiency.

Concerns About the Modified Free Enterprise System:

• There is ongoing debate about whether government regulations stifle innovation and freedom or are necessary to prevent market failures and ensure fairness and stability.

Vocabulary:

• Market Structure: The organization and characteristics of a market, including the number of sellers, the nature of the products or services, and the ease of entry and exit for firms.
• Pure Competition: A market structure with many small firms, producing identical products, with ease of entry and exit.
• Industry: A group of firms producing similar products or offering similar services.
• Perfect Competition: A theoretical market structure where buyers and sellers are perfectly informed, there are many buyers and sellers, and all products are identical.
• Monopolistic Competition: A market structure where there are many firms, each producing a slightly differentiated product, with easy entry and exit.
• Product Differentiation: Creating unique features or characteristics for a product to distinguish it from its competitors.
• Non-Price Competition: Competing with other firms by focusing on factors other than price, such as quality, design, or advertising.
• Oligopoly: A market structure where a few firms dominate the industry.
• Collusion: A secret agreement between firms to control prices, limit output, or divide markets.
• Price-Fixing: A form of collusion where firms agree to set prices for their products.
• Monopoly: A market structure where a single firm controls the entire industry.
• Laissez-faire: A philosophy of minimal government intervention in the economy.
• Natural Monopoly: A market where one firm can produce a product more cheaply than any competitor.
• Geographic Monopoly: A monopoly that exists because there are no other firms in a particular geographic area.
• Technological Monopoly: A monopoly created by ownership or control of a specific manufacturing method or process.
• Government Monopoly: A monopoly owned and operated by the government.
• Market Failure: A situation where the market system does not allocate resources efficiently.
• Public Goods: Goods that are non-excludable (cannot prevent anyone from enjoying them) and non-rivalrous (one person's use doesn't diminish another's).
• Spillover Effect (Externality): The impact of an activity on those not directly involved.
• Cost-Benefit Analysis: A systematic approach to evaluating the costs and benefits of a particular project or decision.
• Trusts: Combinations of firms designed to restrict competition or control prices.
• Price Discrimination: Selling the same product to different customers at different prices.
• Economies of Scale: Lower average production costs achieved by producing larger quantities.
• Transparency: The quality of being open and accessible to public scrutiny.
• Public Discourse: Discussion of matters of public concern.
• Mortgage: A loan secured by real estate.
• Foreclosure: The process of taking possession of a property due to the borrower's failure to make mortgage payments.
• The Sherman Antitrust Act: A federal law passed in 1890 to prevent monopolies and promote competition.
• Clayton Antitrust Act: A federal law passed in 1914 to strengthen the Sherman Act and prevent anti-competitive practices.
• Robinson-Patman Act: A federal law passed in 1936 to prevent price discrimination.
• Modified Free Enterprise System: A system that combines elements of free markets with government regulation.
• Interstate Commerce Commission (ICC): A federal agency established in 1887 to regulate interstate commerce.
• Federal Reserve System (FRS): The central banking system of the United States.
• Federal Deposit Insurance Corporation (FDIC): A government agency that insures deposits in banks and savings associations.
• Securities and Exchange Commission (SEC): A federal agency that regulates the securities industry.
• National Labor Relations Board (NLRB): A federal agency that protects the rights of workers to form unions and engage in collective bargaining.
• Nuclear Regulatory Commission (NRC): A federal agency that regulates the civilian use of nuclear materials.
• Federal Energy Regulatory Commission (FERC): A federal agency that regulates the interstate transmission of electricity and natural gas.
• Consumer Financial Protection Bureau (CFPB): A federal agency that protects consumers from unfair, deceptive, or abusive practices in the financial services industry.

Explore the dynamics of oligopoly in this quiz covering interdependent behavior, competition strategies, and profit maximization techniques. Learn how major firms affect each other in markets and the implications of collusion in pricing and product output.