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Oligopoly And Monopolistic Competition

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Published: Mon, 15 May 2017

There are various firms which lie between perfect competition and monopolist. The two major of this are monopolistic competition and oligopoly.

Monopolistic competition can be defined as a market structure which consists of a large number of relatively small firms competing with each other in terms of product quality, pricing as well as marketing the product. These firms usually enjoy the freedom of entry and exit in and out respectively in the industry. monopolistic market structures normally appear very competitive but they do not exhibit a perfect competition , this is because all the firms in in a monopolistic market have the freedom to set its own price as desired and none of the firm can influence the market price in which it exist by use of its size. In addition to its operation, the degree and efficiency of this market structure operation is achieved by the idea that all monopolistic competition firms tend to produce differentiated products. For example in media market, there are those who produce magazines while others focus mainly on televising their news. This is because they strongly believe that producing differentiated products as well as advertising them provides a strong basis for their sale to the consumers as well as high quality product production. It is argued that too much of advertisement leads to time and resource wastage as advertisement in the long run raises the price of a product. Monopolistic competition can also be best described in a diagram both in the short run as well as in the long run. The diagram below illustrates a monopolistic competition market operation in the short run;

In the short run, monopolistic competition market

, that is, firms in this market make their own decision in price and output. At this point, they produce up to the level where marginal revenue and marginal cost equates. i.e. MR=MC. Firms earn very good positive profits in the short run, though these profits are not guaranteed for longer period. Profits are maximized where marginal revenue equals marginal cost and a point above the marginal cost curve.

In the long run, monopolistic competition profits are eliminated and are equal to zero. In order to attain its equilibrium, a demand curve of a firm must be tangent with the average total curve cost so that profits equal to zero as shown below; .

Economists argue that in the long run, monopolistic competition market structures are very efficient since there is elimination of economic profits. However, prices are normally higher than the marginal cost thus negatively affecting consumers’ mode of purchasing or consuming a product. In addition, the average total cost is maximized rather than minimized resulting to non-realization of economies of scale.

Some market structures just like monopolistic competition exhibits certain characteristics of a monopoly and a perfect competition market, such market structure are known as oligopoly. Particularly, oligopoly can be defined as a market structure consisting of small number of relatively large firms. These firms have legal barriers or natural barriers which prevent the entry of other new firms into the market. Oligopoly market dominated by two firms is called a duopoly, which leads to the cournot model formation. Cournot model is a model consisting of two firms in an oligopoly market, where an agreed final level of output is determined through output adjustment decision to distinguish it from the output produced if the market was to be left operating competitively or as a monopolist. In an oligopoly market structure, products are either differentiated or are homogeneous. It is also true that a firms behavior in an oligopoly market is highly dependent on the behavior of other firms in the same market. This is the major common feature to all the firms in oligopoly market. Oligopoly market structure exhibits a collusion model, , where a small group of firms, referred to as a cartel, combine together and decide on an agreed price and output, unlike in monopolistic competition market. This collusion occurs where there are relatively small firms and where pricing and output determination agreement is explicit.

Oligopoly has a special demand curve which is kinked. The major assumption of this kinked demand curve model is that each firm has strong believe that if a firm decide to raise the price of its products, it is most likely that other firms will not follow that trend, but if a firm cuts its price then it follows that other firms will follow so as to get more customers as well. Therefore there is elastic demand for price increases and inelastic demand for price reductions in an oligopoly market, this shows that prices in oligopoly market structure are very rigid. In addition, oligopoly market is characterized by many buyers and few firms, they advertise their products and their information regarding the market is slightly imperfect. There is no colluding in this market. Oligopoly uses game theory, as a tool for monitoring strategic behavior, to help set quantity and price.

The diagram below clearly illustrates how oligopoly market structure operates;

It is clear that if increase in price by one firm is ignored by another firm while decrease in price by one firm is responded to very fast by other competitors, reducing their prices as well, there will be a kinked demand curve. It maximizes profit by setting prices at the point (P1) and quantity at point (Q2) where the marginal cost curve cuts the gap of the marginal revenue curve.

Analyses of the above two market structures make consumers indifferent in which market structure to adapt for their daily products of consumption. Many consumers go for the oligopoly while others prefer perfect monopoly considering the advantages and disadvantages of each market.

Oligopoly is considered favorable with other consumers because it is seen to have relatively stable prices, these help consumers to draw their budget and plan easily with their expenditure. Competitive nature of this market structure is normally enjoyed with consumers as the firms compete in lowering their prices as well as in setting a very high to quantify their products. Consumers therefore find it very easy to compare prices and quantity therefore going with the lowest identified price and the highest identified quantity . In addition, customers enjoy the innovative nature in oligopoly market created by huge profit gains by the firms. Oligopoly serves best the customers who are indifferent of whether to go for a perfect competition or monopoly. However, a major disadvantage experienced by consumers of this market structure is that there are no varieties of products to choose from because of the many barriers to enter the market by other new firms, consumers therefore only chose from the limited products provided.

Considering monopolistic competition, its consumers suffer price discrimination since each firm is free to set its price with respect to clear product differentiation. Branding of the products also does not add a clear advantage to consumers. However, consumers are also titled to many advantages in respect to this market. Free entry of new firms into the market allows the consumers to enjoy a wide variety of products. The products are clearly differentiated and this eases the work of a consumer to identify his or her normal product easily. Also, due to the high competitive nature of the firms in this market structure, consumers are assured of the best product quality. In addition to this, consumers are more informed about the market structure and how it operates.

In summary, from the analysis above, different consumers have different taste and therefore chose their market structure according to their preference. However, consumers in the monopolistic competition market enjoys more and their advantages outweigh the disadvantages unlike with the oligopoly market


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