212 Why It Matters: Oligopoly

Why analyze a firm’s profit maximizing strategies under conditions of oligopoly?

Think about the purchases you make.  Perhaps you’re buying groceries. Perhaps you’re going out to the movies or dinner. Maybe you’re making airline reservations for a trip. Maybe you’re buying a new car. Almost certainly, the industries you are doing business with are imperfectly competitive. They consist of more than one firm, but less than the large number required for perfect competition. Each firm has some degree of market power, but none can ignore what other firms in the industry are doing.

Imperfectly competitive industries fall into one of two categories, either oligopoly or monopolistic competition. In this module, we discuss oligopoly, the market structure which is most like monopoly.  In the next module, we’ll discuss monopolistic competition, which is closer to perfect competition.

Most of the firms that get talked about as “monopolies” today or that regulatory authorities pursue antitrust activities against are actually oligopolies, firms that have only a limited number of competitors. There are quite a few industries in the U.S. that are oligopolistic. Think about rental cars, or car manufacturers, or newspapers, or internet service providers.

Here are some questions to think about as you work through this module:

• Why does an oligopoly like Microsoft make large economic profits, while an oligopoly like United Airlines barely breaks even?
• Why are economy seats essentially the same price as they were a decade or two ago, when the prices of most things have gone up?
• Why do airlines offer frequent flyer clubs?

These are just some of the questions you’ll be able to answer by the end of our study of imperfect competition.

LEARNING OUTCOMES

• Define characteristics of oligopolies
• Explain why collusion can occur in oligopolistic industries
• Explain the role of game theory in understanding the behavior of oligopolies
• Explain why oligopolies are inefficient