226 Putting It Together: Oligopoly

Summary

The goal of this module was analyze a firm’s profit maximizing strategies under conditions of oligopoly.  You learned how to:

•       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.

Examples

While oligopoly is defined as an industry consisting of, or dominated by a small number of firms, the key characteristic is interdependence among firms.  Oligopolies can be characterized by collusion, where firms act jointly like a monopolist to share industry profits, or by competition, where firms compete aggressively for individual profits, or something in between.  The computer operating system, dominated by Microsoft, fits the former profile with persistent high economic profits.  The airline industry (e.g. United) fits the latter profile, leading to prices barely above costs and low profits.

Oligopolies are inefficient for the same reasons that monopolies are—in order to reap economic profits, they produce too little output so they create deadweight losses to society.  The more like a monopoly a given oligopoly is, the higher their profits and the greater the deadweight loss.  This is why strong oligopolies usually generate antitrust action by the government.