Oligopoly and Interdependence

Oligopoly

• Only a few sellers offer either identical products or differentiated products.
• In identical product scenarios, sellers are price takers, like in petroleum or mobile network providers.
• With differentiated products, sellers are price makers, like in the car market or soft drinks.
• Market entry is difficult.
• There is interdependence between companies, meaning the actions of one firm can influence the reactions of others.

Interdependence

• Interdependence involves actions by one firm leading to reactions from others, such as changes in production volume or pricing.
• Your actions directly impact the profits of your rivals, and vice versa.
• This is often analyzed by Game theory, which studies how people behave in strategic situations.
• In these situations, choices must consider how others will respond.

Tension Between Cooperation and Self-Interest

• Cooperation can lead to a group of sellers acting like a monopolist, producing less and charging higher prices to maximize profit.
• Cartels represent a form of collusion where an agreed-upon production level and quantity for each member is set.
• Self-interest, however, presents powerful incentives to break cartels or not cooperate.
• It's tough to agree on colluded pricing or production levels due to potential legal ramifications through antitrust laws.
• Without collusion, the market experiences lower prices, higher quantities, and lower profits compared to a monopolistic setting.
• However, prices and profits remain higher than in a fully competitive market.

Equilibrium for an Oligopoly

• Conflicts arise between the desire to cooperate and achieve the monopoly outcome, and the pursuit of self-interest.
• Despite the benefits of cooperation, firms prioritize self-interest, leading to outcomes that don't maximize joint profit.
• Each firm is tempted to raise production, hoping to capture a larger market share, ultimately leading to increased market output and lower prices.

Market Size Does Matter

• The size of a market influences the outcome of an oligopoly.
• As the number of sellers in an oligopoly grows, collusion becomes more difficult and the market becomes more competitive.
• Price approaches marginal cost, and the quantity produced approaches that of a competitive market.

Why Cartel Members May Cheat

• Cartel members are tempted to cheat to gain a bigger share of the total profit.
• The incentive to profit from individual actions is difficult to resist in the context of a cartel.

Dominant Strategy

• A dominant strategy is the best option for a player regardless of what other players choose.
• It's the strategy each player believes will yield the best outcome, irrespective of the actions of the other players.

Prisoners' Dilemma

• This game portrays a situation where two suspects are interrogated separately, facing a dilemma about confessing or remaining silent regarding a crime.
• It highlights the difficulty in maintaining cooperation, even when it's mutually beneficial.
• It's applicable to various situations, such as competition between businesses, bidding for contracts, or political rivalry.

OPEC and the World Oil Market

• OPEC is a cartel formed in 1960 by Iran, Iraq, Kuwait, Saudi Arabia, and Venezuela.
• By 1973, Qatar, Indonesia, Libya, the United Arab Emirates, Algeria, Nigeria, Ecuador, Gabon joined OPEC.
• OPEC holds control over approximately three-fourths of the world's oil reserves.
• OPEC's goal is to raise prices through coordinated reduction in production.
• Each member country has a designated production level assigned by the organization.
• However, the incentive to individually increase production for greater individual profit makes cartel cooperation difficult, causing a constant challenge for price maintenance.
• The cartel's attempt to maintain high prices was relatively successful from 1973 to 1985, as oil prices increased during this period.

Explore the characteristics of oligopoly, where few sellers control the market with either identical or differentiated products. Understand the crucial role of interdependence among firms and how it affects pricing and production decisions, often analyzed through Game theory. This quiz delves into the tension between cooperation and self-interest in oligopolistic markets.