1.5.5: Oligopoly (HL only)



  1. Concentration ratio measure the proportion of the total market share controlled by a given number of firms.
  2. Oligopoly is a market structure where there are a few large firms that dominate the market. A key feature is that of interdependence between firms, and there tends to be price rigidity.
  3. Cartel is a group of firms in an industry that join together to limit competition between member firms, fix prices and maximize joint profits as if the firms were collectively a monopoly. They are usually illegal in most countries.
  4. Non-collusive oligopoly is where firms in an oligopoly don’t resort to agreements to fix prices or output. Competition tends to be non-price and prices tend to be stable, with firms developing strategies that take into account all possible reactions from their rivals when making pricing decisions.


Assumptions of the model

  • Few firms dominate the market.
  • Some firms produce identical or differentiated products.
  • Low barriers to entry.

Firms are interdependent on each other.


Game Theory

  • Considers the strategy a firm could take in light of decisions by rival firms.

  • When airline A wants to reduce prices, it is assumed that airline B also reduces their price, but that isn’t always the case.
  • When airline B speculates airline A is reducing their prices, prices of airline B drops while airline A stays the same, therefore earning more profit.
  • In order to act as an oligopoly, they would either have to keep the prices their same or reduce their profits, which would then harm the industry.
  • Game theory is only useful when there are small number of firms, small number of possible options and outcomes can be accurately predicted.


Kinked demand curve

  • If the firm raises their price, it is unlikely that the other firms would also raise their price → Loss of demand → Demand becomes elastic.
  • IF the firm lowers their price, it is likely that other firms would follow them and reduce their prices → Loss of sales → Demand becomes inelastic.

●       Three reasons for price rigidity

  • Firms are afraid to raise prices above the current market price because other firms won’t follow them → Lose trade, sales and profit.
  • Firms are afraid to lower prices below the current market price because other firms will follow them → Creating a price war that harms all firms involved.
  • If MC rises, MC would still be equal to MR so the firms wouldn’t change their prices or outputs.


Non price competition

  • Firms in oligopoly tend to compete on quality rather than price.
  • Examples of non-price competition includes packaging, brand names, special features, advertising, sales promotion, personal selling, publicity, sponsorship deals and special distribution features.
  • Main aim is to increase brand loyalty and make demand for products inelastic.