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Oligopoly – Definition

Oligopoly Definition

Oligo means a small number. A market ruled by a small number of firms that can exert great influence on prices, policies, and procedures, is called an Oligopoly. This market dominance can be achieved by large firms merging together to destroy competition, single firms monopolising the market and keeping other players at bay via policy manipulation, or the absence of competition in a sphere leading to two or a few firms capturing the entire market share.

Monopoly is market dominance by a single firm, like Baidu in the Chinese speaking world and Yandex in Russia.

Duopoly is the market dominance by two firms, like Pepsi and Coke in the world of soft drinks and snacks.

Oligopoly is two or more firms capturing the entire market.

Examples of Oligopolies are:

Google, Facebook Search, and Bing dominate the world of online Search in the English speaking world.

Facebook, Twitter, and Reddit form an Oligopoly of social media forums online. Competition from Instagram and WhatsApp was thwarted by acquisition and merger with Facebook, creating a larger firm with multiple social communication platforms.

A Little More on What is Oligopoly

Historically, most industries have seen a few firms capture the market share. From car manufacturing, to diamonds production, oil companies to grocery stores, it exists in myriad forms in diverse verticals. Oligopolies are not good for the consumers, the markets, or economic growth. They kill competition, are beyond price regulations in most cases, can enforce legal and policy changes to favour their practices, are anathema to innovation and entrepreneurship, and immune to market forces, capable of regulating supply and demand to suit their own ends. Ultimately, it’s the consumer who pays the price.

Stability of Oligopolies

Although detrimental to economic growth in the long run, Oligopolies tend to be stable owing to the fixed price approach they employ to stay in power. Instead of indulging in price wars with their closest competitors, they mutually agree to fix prices that benefit both firms in the long run – OPEC being a prime example of this approach. This makes them immune to governmental regulations against price fixing. They have the legal and monetary means and reach to side-step regulatory guidelines like using phases of the moon, or following the price fixing patterns of a recognised leader.

Market share capturing is achieved by brand management, increased production levels, and marketing efforts in lieu of expensive price wars.

What Conditions Enable Oligopolies

Market conditions that are conducive to the sustained dominance of Oligopolies are:

  1. High Entry Costs that keep competition from entering the markets.
  2. Legal Privilege like acquiring licenses, invitations to bid on purchasing critical resources like land for railroad construction, broadband spectrums for carriers, etc.
  3. Reach and penetration that require breaking into the existing customer base of a reigning Oligarch like a new social media platform.

The rise of technology, global trade and alliances, and offshore production has challenged the existing norms that keep Oligarchies in power. Microsoft’s monopoly on the Office Suite was challenged by Google and other small time developers by raising funds via crowdsourcing and marketing via social media and other online forums. This isn’t always a feasible approach as some Oligarchs, like OPEC, can hit back and strongarm coalitions even with access to funds and legal power.

Economists and Game Theorists have studied the phenomenon for long and posited theories and experiments to counter their emergence. Empirical models striking at the Nash equilibrium of Oligopolies are being developed and tested to curb their influence.

References for Oligopoly

Academic Research on Oligopoly

A theory of oligopoly, Stigler, G. J. (1964). Journal of political Economy, 72(1), 44-61. This journal, aimed at economists, does a deep dive into the ins and outs of an Oligopoly, stressing on the principle of collusive agreements between Oligarchs.

Multimarket oligopoly: Strategic substitutes and complements, Bulow, J. I., Geanakoplos, J. D., & Klemperer, P. D. (1985). Journal of Political economy, 93(3), 488-511. This book studies the strategic substitutes and complements of Oligarchs in different markets and the resultant change in profits and losses.

Equilibrium incentives in oligopoly, Fershtman, C., & Judd, K. L. (1987). The American Economic Review, 927-940. This review looks at the equilibriums incentive structure for managers in competing firms in Oligopolies.

The oligopoly solution concept is identified, Bresnahan, T. F. (1982). Economics Letters, 10(1-2), 87-92. This paper takes a look at different Oligopoly solution concepts and sheds light on pricing structures.

Oligopoly theory, Friedman, J. (1982). Handbook of mathematical economics, 2, 491-534. This book explains the Oligopoly Theory in detail. It uses mathematical methods to explain the two models of Oligopoly – Cournot’s and Chamberlin’s.

Theories of oligopoly behavior, Shapiro, C. (1989). Handbook of industrial organization, 1, 329-414. This book discusses Oligopolies, theorems, and market behaviour with the help of real life examples from different industries.

Comparative statics for oligopoly, Dixit, A. (1986). International economic review, 107-122. This review studies the comparative statics of equilibria in Oligopolies.

Optimal trade and industrial policy under oligopoly, Eaton, J., & Grossman, G. M. (1986). The Quarterly Journal of Economics, 101(2), 383-406. This journal takes a look at the welfare effect of Oligopoly on industrial policies and trade practices.

Demand under conditions of oligopoly, Sweezy, P. M. (1939). Journal of political Economy, 47(4), 568-573. This journal studies the Demand curve under the influence of Oligopoly, and speculates on its implications.

Oligopoly and financial structure: The limited liability effect, Brander, J. A., & Lewis, T. R. (1986). The American Economic Review, 956-970. This review studies the effect of Oligopolies on the debt-to-equity ratios, outputs, and financial structures on firms, and argues that financial and product markets exhibit strong correlation.

Monopoly and oligopoly by merger, Stigler, G. J. (1950). The American Economic Review, 23-34. This paper examines the theory of  monopoly of Oligarchies in light of mergers.

Oligopoly and the incentive for horizontal merger, Perry, M. K., & Porter, R. H. (1985). The American Economic Review, 75(1), 219-227. This journal reviews the two types of conditions in an Oligopoly – when there are incentives to mergers and when there are none.

Product choice and oligopoly market structure, Mazzeo, M. J. (2002). RAND Journal of Economics, 221-242. This journal studies market structure and pricing in Oligopoly markets with the help of empirical models.

The estimation of the degree of oligopoly power, Appelbaum, E. (1982). Journal of Econometrics, 19(2-3), 287-299. This journal examines the influence and creates an index of Oligopoly power structures in different markets.

Mixed oligopoly with differentiated products, Cremer, H., Marchand, M., & Thisse, J. F. (1991). International Journal of Industrial Organization, 9(1), 43-53. This journal reviews the different outcomes of Oligopoly models on pricing and welfare, by using mathematical models to replicate Nash equilibriums and predicate the results.

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