Oligopoly
Oligopoly is a fairly common market organization. In the United States, both the steel and auto industries (with three or so large firms) provide good examples of oligopolistic market structures.
MAJOR CHARACTERISTICS OF OLIGOPOLY.
An important characteristic of an oligopolistic market structure is the interdependence of firms in the industry. The interdependence, actual or perceived, arises from the small number of firms in the industry. However, unlike monopolistic competition, if an oligopolistic firm changes its price or output, it has perceptible effects on the sales and profits of its competitors in the industry. Thus, an oligopolist firm always considers the reactions of its rivals in formulating its pricing or output decisions. There are huge, though not insurmountable, barriers to entering an oligopolistic market. These barriers can involve large financial requirements, availability of raw materials, access to the relevant technology, or simply patent rights of the firms currently in the industry. Several industries in the United States provide good examples of oligopolistic market structures with obvious barriers to entry. The U.S. auto industry provides an
example of a market where financial barriers to entry exist. In order to efficiently operate an automobile plant, one needs upward of half a billion dollars of initial investment. The steel industry in the United States, on the other hand, provides an example of an oligopoly where barriers to entry have been created by the ownership of
raw materials needed for producing the product. In this industry, a few huge firms own most of the available iron ore, a necessary raw material for steel production.
An oligopolistic industry is also typically characterized by economies of scale. Economies of scale in production imply that as the level of production rises the cost per unit of product falls for the use of any plant (generally, up to a point). Thus, economies of scale lead to an obvious advantage for a large producer. Once again, the automobile industry provides an example of a market structure where firms experience economies of scale. It should be noted that there may exist economies of scale in promotion just as there exist economies of scale in production. In the automobile industry, the promotion cost per unit of product falls as sales increase since promotion costs rise less than proportionately to sales.
ECONOMICS AND DESIRABILITY OF OLIGOPOLY.
There is no single theoretical framework that provides answers to output and pricing decisions under an oligopolistic market structure. Analyses exist only for special sets of circumstances. For example, if an oligopolistic firm cuts its price, it is met with price reductions by competing firms; however, if it raises the price of its product, rivals do not match the price increase. For this reason, prices may remain stable in an oligopolistic industry for a prolonged period of time. It is hard to make concrete statements regarding price charged and quantity produced under oligopoly. However, from the point of view of the society, one can say that an oligopolistic market structure provides a fair degree of competition in the market place if the oligopolists in the market do not collude. Collusion occurs if firms in the industry agree to set price and/or quantity. In the United States, there are laws that make collusion illegal.