Oligopoly

Definition

An oligopoly is a market structure characterized by a small number of firms that dominate the industry. In an oligopoly, the decisions and actions of each firm significantly impact the market, and firms often engage in strategic interactions with one another to maximize their profits.

5 Must Know Facts For Your Next Test

1. Oligopolies often exhibit interdependent decision-making, where the actions of one firm significantly impact the others.
2. Firms in an oligopoly may engage in price leadership, where one firm sets the price and the others follow to maintain market share.
3. Oligopolies can lead to non-price competition, such as advertising, product differentiation, and innovation, to attract and retain customers.
4. Barriers to entry, such as high startup costs or government regulations, are common in oligopolistic markets, making it difficult for new firms to enter.
5. Oligopolies can result in both efficient and inefficient outcomes, depending on the degree of competition and the strategic interactions among the firms.

Review Questions

• Explain how the small number of firms in an oligopoly market structure affects the decision-making and interactions among the firms.
  • In an oligopoly, the small number of firms means that each firm's decisions and actions have a significant impact on the overall market. This leads to interdependent decision-making, where firms must carefully consider how their choices will affect their competitors and the market as a whole. Firms in an oligopoly often engage in strategic interactions, such as price leadership or non-price competition, to maintain or increase their market share and profitability.
• Describe the potential outcomes of an oligopoly market structure, both in terms of efficiency and competition.
  • Oligopolies can lead to both efficient and inefficient outcomes, depending on the degree of competition and the strategic interactions among the firms. On the one hand, oligopolies can promote efficiency through innovation, product differentiation, and non-price competition, which can benefit consumers. However, oligopolies can also result in inefficient outcomes, such as higher prices and reduced output, if the firms engage in collusion or other anti-competitive practices to maximize joint profits at the expense of consumer welfare.
• Analyze the role of barriers to entry in an oligopoly market structure and how they impact the dynamics of competition.
  • Barriers to entry, such as high startup costs or government regulations, are common in oligopolistic markets. These barriers make it difficult for new firms to enter the market, which can entrench the existing firms and limit competition. This can lead to the firms in the oligopoly engaging in strategic interactions, such as price leadership or non-price competition, to maintain their market dominance. The presence of these barriers can also result in inefficient outcomes, as the lack of competition can lead to higher prices and reduced innovation for consumers.

Related terms

Monopoly: A market structure with a single seller that controls the entire supply of a good or service.

Duopoly: A specific type of oligopoly where there are only two firms that dominate the market.

Collusion: An agreement among firms in an oligopoly to coordinate their pricing and output decisions to maximize joint profits.