“Oligopoly is the most prevalent form of market structure in the manufacturing sector.”
Describe this statement with the help of an example.
OLIGOPLY
An oligopoly is a market form in which a market or industry is dominated by a small number of sellers (oligopolists). The word is derived, by analogy with "monopoly", from the Greek ὀλίγοι (oligoi) "few" + πωλειν (polein) "to sell". Because there are few sellers, each oligopolist is likely to be aware of the actions of the others. The decisions of one firm influence, and are influenced by, the decisions of other firms. Strategic planning by oligopolists needs to take into account the likely responses of the other market participants. (Wikipedia, accessed 22 Oct 2010)
So we see that it is a market structure characterized by a small number of normally large firms that dominate the market, selling either identical (homgeneous/undifferentiated - pure oligoply - as one could perhaps see in the petrochemical industry in South Africa)or differentiated products (then called a differentiated oligopoly), with significant barriers to entry into the industry. These barriers are often the result of licencing or other Government intervention.
This is one of four basic market structures. The other three are perfect competition, monopolistic competition (what I like to call "normal compitition" and on the other extreme - monopoly.
Oligopoly dominates the modern economic landscape, some say that these firms account for about half of all output produced in a economy that one could characterise as "mixed". Oligopolistic industries are as diverse as they are widespread, ranging from breakfast cereal to cars, from computers to aircraft, from television broadcasting to pharmaceuticals, from petroleum to detergent.
So, oligopoly is a market structure characterized by a small number of relatively large firms that dominate an industry. The market can be dominated by as few as two firms or as many as twenty, and still be considered oligopoly; but four firms controlling more than 50% of a particular market can be used as a rule of thumb.
With only one firms, the industry is called monopolistic. As the number of firms increase (but with no exact number, apart from the guidelines given above) oligopoly becomes monopolistic competition.
Because oligopolistic firms are relatively large compared to the other players in the market, they have a substantial degree of market control; but itt does not have the total control since there are one or more other large players around. Then too they do not have the same extent of control over the supply side as exhibited by a monopoly company.
Interdependence among firms in an industry is a key feature of oligopoly. The actions of one firm depend on and influence the actions of another. Such interdependence creates a number of interesting economic issues. One is the tendency for competing oligopolistic firms to turn into cooperating oligopolistic firms. When they do, inefficiency may worsen, and they tend to come under the scrutiny of government because of consumer activism. However there are many instances where oligopolistic (and monopolistic) firms tend to be a prime source of innovation, innovations that promote technological advances and economic growth - Microsoft and the other larger players in the computer industry is a very good example of this behaviour. They compete in terms of innovation rather that trying to be the cheapest.
There is thus both good and bad with oligopolistic firms. The challenge for practitioners in economics is, of course, to promote the good and limit the bad.
Characteristics
The three most important characteristics of oligopoly are:
(1) an industry dominated by a small number of large firms,
(2) firms sell either identical or differentiated products, and
(3) the industry has significant barriers to entry.
• Small Number of Large Firms: An oligopolistic industry is dominated by a small number of large firms, each of which is relatively large compared to the overall size of the market. This generates substantial market control, the extent of market control depending on the number and size of the firms.
• Identical or Differentiated Products: Some oligopolistic industries produce identical products, while others produce differentiated products. Identical product oligopolies tend to process raw materials or intermediate goods that are used as inputs by other industries. Notable examples are petroleum, steel, and aluminum. Differentiated product oligopolies tend to focus on consumer goods that satisfy the wide variety of consumer wants and needs. A few examples of differentiated oligopolistic industries include automobiles, household detergents, and computers.
• Barriers to Entry: Firms in a oligopolistic industry attain and retain market control through barriers to entry. The most common barriers to entry include patents, resource ownership, government franchises, start-up cost, brand name recognition, and decreasing average cost. Each of these make it extremely difficult, if not impossible, for potential firms to enter an industry.
Behavior
Although oligopolistic industries tend to be diverse, they also tend to exhibit several behavioral tendencies: (1) interdependence, (2) rigid prices, (3) nonprice competition, (4) mergers, and (5) collusion.
• Interdependence: Each oligopolistic firm keeps a close eye on the activities of other firms in the industry. Decisions made by one firm no doubt affect others and are likewise affected by others. Competition among interdependent oligopoly firms is comparable to a game or an athletic contest. One team's success depends not only on its own actions but on the actions of its competitor.
• Rigid Prices: Many oligopolistic industries (not all, but many) tend to keep prices relatively constant, preferring to compete in ways that do not involve changing the price. The prime reason for rigid prices is that competitors are likely to match price decreases, but not price increases. As such, a firm has little to gain from changing prices.
• Nonprice Competition: Because oligopolistic firms have little to gain through price competition, they generally rely on nonprice methods of competition. Three of the more common methods of nonprice competition are: (a) advertising, (b) product differentiation, and (c) barriers to entry. The goal for most oligopolistic firms is to attract buyers and increase market share, while holding the line on price.
• Mergers: Oligopolistic firms perpetually balance competition against cooperation. One way to pursue cooperation is through merger--legally combining two separate firms into a single firm. Because oligopolistic industries have a small number of firms, the incentive to merge is quite high. Doing so then gives the resulting firm greater market control.
• Collusion: Another common method of cooperation is through collusion--two or more firms that secretly agree to control prices, or openly cultivate a working relationship, help one another with production, or some other aspect. (If one farmer helps his neighbour we do not talk about collusion). Collusion really just means that the firms behave as if they are one firm without combining as such. This does however mean that they are in a position to set a monopoly price, produce a monopoly quantity, and allocate resources as inefficiently as one often find in a (state)monopoly (such as the Postal Services or Motor Vehicle licencing authorities) in many coutries). A formal method of collusion, usually found among international produces is called a cartel (a la OPEC).
Oligopolies, though very common are definately NOT the prevalent form in the manufacturing sector by far in most countries.
How a sector might maintain OLIGOPOLISTIC market conditions are mainly through through barriers to entry in cullusion with state authorities. Other common barriers to entry include
-patents,
-resource ownership,
-government franchises,
-start-up cost,
-brand name recognition, and
decreasing average cost.
Each of these make it extremely difficult, and often impossible, for new firms to enter an industry.
Posts
