Oligopoly Market: Nature and Types | Market Structure

Let us learn about Oligopoly Market. After reading this article you will learn about: 1. Nature of Oligopoly Market 2. Types of Oligopoly Market.

Nature of Oligopoly Market:

At a first sight, many of the markets resemble monopolistic competition where sellers behave independently, i.e., actions of one seller go unnoticed by his rival sellers. In contrast, many of the markets, in reality, are dominated by a few sellers where inter­dependence or rivalry among sellers is the main element.

Each seller takes into account the actions of other sellers while taking price-output decision. Such a market form is popularly known as oligopoly. This term is derived from the Greek word oligos meaning few and polis meaning sellers. Thus, oligopoly is said to exist when there are few sellers of homogeneous or differentiated products.

Some define that when the number of sellers vary between 2 and 20, the market is said to be an oligopolistic one. The extreme form of oligopoly is duopoly when number of sellers is exactly two. Truly speaking, there is no such precise ‘number limit’. In other words, the key issue is not numbers but rather the interdependence among sellers.

While in real world economies oligopoly market is found, it has not been so far possible to build up a satisfactory integrated general theory of oligopoly behaviour. The failure to build up a general theory of oligopoly is due to the differences in the structure of this market form as well as in the behaviour of firms.

Because of the differences in structure of oligopoly market, economists often prescribe different models explaining different behaviour of the oligopolists. This market differs from the market forms of perfect competition, monopoly, and monopolistic competition.

Firms in perfect competition or in monopolistic competition engage in ‘non- strategic behaviour’ implying that cost and demand curves of one seller are drawn without considering the actions of a large number of rivals. In contrast, an oligopolist’s behaviour is strategic.

This means that each seller is affected by the actions of his rival sellers. Likewise, price-output decision of one seller will affect his rivals’ decisions. In view of these, oligopolistic industries are of many types. The industries exhibiting oligopoly business differ widely in their institutional set up. In practice, there may be as many varieties of arrangement as the number of industries.

Empirical investiga­tion suggests that each oligopolistic industry is, to some extent, unique. That is why quite a larger number of theoretical models have been built up by economists to describe the oligopoly form of market. In fact, difficulty of building a general theory of oligopoly is due to the peculiar characteristics of the oligopoly market.

The most distinctive feature of an oligopolistic industry is the interdependence among sellers. In its own decision-making, every firm takes into account the behaviour or actions of its rival firms. That is to say, actions and reactions of each firm are studied seriously by the rival firms.

However, there may be different reaction patterns to actions of the first firm. A rival seller may ignore the actions of the competitors. In some cases, some firms may engage in price competition. They may also engage in non-price competition.

No specific or predictable behavioural pattern is discernible since a great deal of uncertainty is involved as far as actions and reactions are concerned. That is why there is no satisfactory and comprehensive model of oligopoly.

Above all, the complexities and diversity of oligopoly business makes analysis of price and output determination difficult. A broad theory, with assumptions so general that they cover all the possible oligopoly situations stated above, offers no guidance to analyse particular oligopoly situation, while developing separate theories based on all possible assumptions is virtually an impossible task.

Types of Oligopoly Market:

An oligopoly market is beset with the problem of price determination since the actions and reactions of rival firms vary from industry to industry.

So, before determining the price of a product, it is better to classify oligopoly market on the basis of:

(i) Specific assumptions about the actions and reactions between firms

(ii) Nature of the product

Oligopoly may be classified according to the nature of the product. It may be homogeneous or differentiated:

(a) Homogeneous Oligopoly or Pure Oligopoly:

If the products of different firms are homogeneous then we have a case of homogeneous oligopoly or pure oligopoly. When oligopoly sellers sell homogeneous products, price differences between the products will be rather insignificant.

In other words, greater the homogeneity of the product, greater will be interdependence among sellers. Whenever a seller changes the price of his product, the sales of the rival sellers will be affected. Consequently, rival sellers will change their pricing policy.

(b) Differentiated Oligopoly:

In this market, sellers sell slightly different products. Price change of one seller will now have less direct effect upon his rival sellers.

In other words, under a differentiated oligopoly, the assumption of interdependence among few sellers becomes less significant. This fact, i.e., insignificant rival consciousness, greatly complicates the price-output determination model of oligopoly. Most of our oligopoly models are differentiated oligopoly models.

Oligopoly market is characterized by ‘competition’ and ‘collusion’. Interdependence of firms may encourage firms to compete with their rivals or may cause sellers to collude with each other. Former oligopoly market is known as non-collusive oligopoly and the latter is known as collusive oligopoly.

(c) Non-Collusive Oligopoly:

Under non- collusive oligopoly market, firms behave independently even though they are interdependent in the market. The behaviour of a seller under non-collusive oligopoly will depend on how he thinks his rivals will react to his decision-making.

Here the seller just guesses the reactions of the competing firms selling homogeneous products. Thus, an autonomous or conjectural behaviour is studied by firms of all rival firms. While setting the price of his product, the firm believes that the rival firms won’t make any countermove when he changes price of his product. This behaviour is known as autonomous behaviour.

But, as far as the oligopoly market is concerned, this sort of autonomous behaviour is self-contradictory. That is why the ‘classical’ non-collusive models of oligopoly—the Cournot model (developed by the French economist Augustin Cournot in 1833), Bertrand’s model (developed by the French Mathematician J. Bertrand in 1883) and Edge-worth’s model (developed by F.Y. Edge-worth in 1897)—fail to determine equilibrium of a firm and industry.

However, in the absence of collusion, some economists have succeeded in explaining equilibrium of a firm.

Most important of these non-collusive oligopoly models are:

(i) Cournot’s duopoly model,

(ii) Sweezy’s kinked demand curve model, and

(iii) Game theory.

(d) Collusive Oligopoly:

If firms collude then we have a case of collusive oligopoly. Non-collusive oligopoly may often lead to cut­throat competition among sellers—ultimate­ly leading towards monopoly business. Influential sellers may retaliate.

To prevent this competitive price cutting or retaliation, sellers may make a collusive agreement. Such agreement may be open or tacit. One form of open collusive agreement is the formation of cartel. A tacit form of collusion is price leadership, rule of thumb, or average cost pricing.

Again, one finds a situation of non-price competition in oligopoly.

Product differen­tiation and advertisement are the two important sources of non-price competition. Sellers want to induce buyers to buy their products by some means, e.g., introduction of a newer variety of product (may be a deluxe variety or a Janata variety), advertisement, etc. One of the most popular (non-price competition) oligopoly model is W. J. Baumol’s sales maximization model.

The upshot of the above discussion is that, like other markets, there is no single oligopoly model that can explain the behaviour of a seller. “In fact, there are just about as many different results as there are oligopolies.”