Oligopoly - Overview
An oligopoly is a market dominated by a few producers, each of which has control over the
market. It is an industry where there is a high level of market concentration. However,
oligopoly is best defined by the conduct (or behaviour) of firms within a market rather than
its market structure.
The concentration ratio measures the extent to which a market or industry is dominated by a
few leading firms. Normally an oligopoly exists when the top five firms in the market account
for more than 60% of total market demand/sales.
Characteristics of an oligopoly
There is no single theory of how firms determine price and output under conditions of
oligopoly. If a price war breaks out, oligopolists will produce and price much as a perfectly
competitive industry would; at other times they act like a pure monopoly. But an oligopoly
usually exhibits the following features:
1. Product branding: Each firm in the market is selling a branded (differentiated) product
2. Entry barriers: Significant entry barriers into the market prevent the dilution of
competition in the long run which maintains supernormal profits for the dominant firms.
It is perfectly possible for many smaller firms to operate on the periphery of an
oligopolistic market, but none of them is large enough to have any significant effect on
market prices and output
3. Interdependent decision-making: Interdependence means that firms must take into
account likely reactions of their rivals to any change in price, output or forms of non-
price competition. In perfect competition and monopoly, the producers did not have to
consider a rival’s response when choosing output and price.
4. Non-price competition: Non-price competition s a consistent feature of the competitive
strategies of oligopolistic firms. Examples of non-price competition includes:
a. Free deliveries and installation
b. Extended warranties for consumers and credit facilities c. Longer opening hours (e.g. supermarkets and petrol stations)
d. Branding of products and heavy spending on advertising and marketing
e. Extensive after-sales service
f. Expanding into new markets + diversification of the product range
The kinked demand curve model of oligopoly
The kinked demand curve model developed first by the economist Paul Sweezy assumes that a
business might face a dual demand curve for its product based on the likely reactions of other
firms in the market to a change in its price or another variable. The common assumption of the
theory is that firms in an oligopoly are looking to protect and maintain their market share and
that rival firms are unlikely to match another’s price increase but may match a price fall.
I.e. rival firms within an oligopoly react asymmetrically to a change in the price of another firm.
If a business raises price and others leave their prices constant, then we can expect quite a large
substitution effect away from this firm making demand relatively price elastic. The business
would then lose market share and expect to see a fall in its total r