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Pricing under Oligopoly

Pricing under Oligopoly

26/June/2025 01:00    Share:   

Here’s a detailed explanation of Oligopoly, its characteristics, types, price/output determination, and leadership models:
 
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? What Do You Mean by Oligopoly?
 
Oligopoly is a market structure where a few large firms dominate the industry, and each firm’s decisions significantly affect the others. Products may be either homogeneous or differentiated, and interdependence is a key feature.
 
> Definition:
Oligopoly is a market situation where a small number of firms control the majority of the market share and influence the market price and output.
 
 
 
 
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? Main Characteristics of Oligopoly
 
1. Few Sellers – A small number of firms control the market.
 
 
2. Interdependence – Each firm considers rivals’ actions before making decisions.
 
 
3. Barriers to Entry – High startup costs or legal restrictions limit new firms.
 
 
4. Non-Price Competition – Firms compete using advertising, branding, packaging, etc.
 
 
5. Price Rigidity – Prices tend to be stable; firms avoid price wars.
 
 
6. Kinked Demand Curve – Explains why price may remain unchanged even with cost fluctuations.
 
 
 
 
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? Types of Oligopoly
 
Type Description
 
Pure Oligopoly Firms produce homogeneous products (e.g., steel, cement)
Differentiated Oligopoly Products are similar but differentiated (e.g., cars, soaps)
Open Oligopoly Entry possible but difficult
Closed Oligopoly Strong barriers to entry
Collusive Oligopoly Firms agree on prices or output (formal/informal cartel)
Non-Collusive Oligopoly Firms compete independently
 
 
 
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? Price and Output Determination in Oligopoly
 
1. Kinked Demand Curve Model
 
Firms believe that if they increase price, competitors won’t follow → lose market share.
 
If they reduce price, competitors will follow → little gain.
 
Leads to price rigidity.
 
 
2. Collusion / Cartel Model
 
Firms form a cartel and behave like a monopoly.
 
Fix output quotas and set prices to maximize joint profit.
 
 
3. Price Leadership Model
 
One dominant firm (leader) sets price.
 
Other firms (followers) accept and follow this price.
 
Common in industries like cement, petroleum, telecom.
 
 
 
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? What is Price Leadership?
 
Price leadership occurs when one firm in an oligopoly (usually the largest or most efficient) sets the price, and other firms in the market follow its lead.
 
> Types of price leadership:
 
Dominant firm leadership
 
Barometric leadership
 
Aggressive leadership
 
 
 
 
 
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⚖️ Price and Output Decision in Oligopoly
 
Under oligopoly:
 
Firms avoid price competition to prevent losses.
 
Focus on output, advertising, quality instead.
 
Price may be stable, but output levels vary based on strategy and market demand.
 
 
 
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✅ Conclusion
 
Oligopoly reflects real-world markets such as airlines, smartphones, telecom, and cement. Due to interdependence, firms often prefer non-price competition and use models like price leadership or collusion to make pricing and output decisions.


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