OLIGOPOLY: CHARACTERISTICS, CAUSES, MODELS, REAL EXAMPLES - ECONOMY - 2025

An oligopoly is the concentration of the market in a few companies, which control the products or services that are offered to the consuming public. However, none of these large companies fully control the market, but rather a large portion of it.

In a concentrated type of market with oligopolistic characteristics, not necessarily only large companies operate, but small firms can also participate. The term oligopoly is not only attributed to companies, but to countries or group of countries. It comes from the Greek roots "olígos", which means few and "polein", which means to sell.

Oil refinery. Source: pixabay.com

The industries where oligopolies are most present are cable television services, the entertainment industry, aeronautics, mining, oil and gas. Likewise, the chemical, pharmaceutical, automotive, technology (computers and software), smart telephony and communications industries.

In oligopolistic markets, the largest companies act by fixing prices and blocking the entry of new companies through the imposition of barriers to the detriment of consumers.

Oligopolistic companies tend to obtain higher profit margins than in a competitive market and sometimes even slow down technological innovation.

Although governments try to prevent oligopolistic practices by passing restrictive laws and regulations, they are not always successful. Companies are always looking for formulas to evade these restrictions and to be able to operate legally.

characteristics

Among the three main characteristics of oligopolies are:

Market and industry concentration

This is the most important characteristic of oligopolies: there are a small number of large companies that dominate the market. This characteristic allows companies to have an almost majority control of the market, without becoming a monopoly.

The key factor in the oligopolistic industry is not the total number of participating companies, but their size in relation to the total market.

Regardless of the number of companies participating in an economic sector, the distinguishing characteristic of oligopolistic industries is the concentration of the market in few companies.

A market in which for example 500 companies participate is considered to be oligopolistic, when the five main companies produce half or more of the total production of an industrial sector.

Barriers to entry

Barriers to entry are a powerful market control factor employed by large firms in an oligopolistic industry. The most common entry barriers are:

- Exclusive ownership of resources

- Regulations and other government restrictions

- Patents and copyrights

- High start-up costs.

When there are few or no barriers to entry, companies enter markets or industrial sectors more easily, as established companies continue to make profits.

This contributes to the reduction of market control by a particular company or group of companies. But when there are entry barriers like those mentioned above, entry difficulties for new companies increase.

Types of oligopoly

Company-company

It tends to produce intermediate goods or generate raw materials that serve as inputs for other industries that produce finished products. This is the case of steel, oil, aluminum and gold.

Company-final consumer

It focuses on the production of goods for personal consumption, since the key factor is the satisfaction of the different needs and desires of consumers, who have a wide variety of products.

For example, companies that manufacture household appliances, cars, computers, detergents, etc.

Causes

Among the main causes for the emergence of oligopolies are:

High capital investment

The high investment, together with the operating cost and the waiting time to see returns of capital, make the entry for many companies to this type of markets unattractive and even unfeasible.

For this reason, the market is operated by a few companies in large-scale economies. In addition, the production of the existing companies manages to satisfy the total demand with costs lower than those of a greater number of companies that would like to participate.

On the other hand, these companies invest heavily in research and development of new products, which are protected by patent and copyright laws.

Such advantages become obstacles for new competitors who would like to participate at a higher cost in research, technological development, etc.

Absolute cost advantage

Lower production costs give oligopolistic companies an advantage over others, because it allows them to operate with lower profit margins with which other companies could not compete or survive.

The cost advantage that existing companies acquire is derived from various factors such as: ownership or control of low-cost raw materials, economical production technique, natural resources possessed, operating experience, and patent rights, among others.

Oligopolistic companies also have their own distribution and marketing channels that give them additional advantages over new companies.

Differentiation

There are cases where companies gain an advantage in the market with product differentiation. The brand loyalty that companies cultivate in consumers causes customers to prefer certain product brands over new ones.

Loyal customers get used to using a product and avoid trying another new one on the market, making it more difficult for competitors to introduce and position a new brand.

In this way, a few companies manage to capture and maintain a significant market share regardless of the number of brands present. This is another form of barrier to entry.

Mergers

Another strategy used by companies in oligopolistic markets to strengthen themselves financially and commercially and compete more strongly is merger. The result is that small or medium-sized companies cannot compete with larger ones and the number of companies present in the market is reduced.

In this way oligopolies are created that give advantages to the companies re-established with the merger, which assure a large portion of the market if their entry barriers and commercial strategies are effective.

Informal collusion

Some companies avoid scrutiny of antitrust laws and other sanctioning rules through informal agreements. In this way, the position of the company is also improved against other new ones who wish to enter or compete.

This creates obstacles to new companies, because prices are sometimes manipulated below their production costs and market shares are established limiting their commercial scope. Given such agreements, the authorities can do little given their implicit nature.

Types of collusion

Open

This type of collusion manifests itself when agreements between companies are not hidden, such as the formation of trade associations for specific purposes. Association of pork producers or an association of bakers.

Covert

It occurs when companies try to hide the agreements reached to avoid being detected by the authorities and subject to regulatory standards.

Small cup

Companies act in association without the need for a formal or informal agreement. Market shares are respected, because it is accepted that a company dominates a sector and it is simply understood. Tacit collusion is difficult to prove.

Oligopoly models

Cournot duopoly model

The oldest theories about oligopoly models date back to 1838 with the Augustin Cournot model. In its theory of the duopoly (two companies that monopolize the entire market), the company assumes that its competition will not vary its production nor does it take into account the reaction of rival companies to its actions.

Cournot published his theory of duopoly, but it was not really studied until 1880 when Leon Walras, another French economist, rescued his contributions to economics. In it, Cournot analyzes the price and production of the same product in a duopoly.

He gives as an example the sale of mineral water by two different companies, which obtain it from two identical springs. Therefore, the product is similar and is sold in the same market. So his model is based on a duopoly with homogeneous products.

In the Cournot model the two companies or owners sell the mineral water at no production cost to simplify the analysis. That is, the cost of production is zero and only market demand is analyzed, which by the way is linear in this case.

On the other hand, Cournot assumes that despite the actions taken by the duopoly company and the effect it has on the price of the product in the market, the rival company will keep its production constant. The duopoly firm then decides the quantity that it will produce most profitably.

Bertrand duopoly model

There are several important differences between the two models (Bertrand and Cournot). In Bertrand's model, the firm first sets the price of a product and then produces it. In other words, there is no production adjustment but a price adjustment.

On the other hand, in the Cournot model, companies adjust their production thinking that the competition will always produce the same quantity. While in the Bertrand model each company assumes that its rival will keep the price at constant levels.

For Bertrand, the information on the total market demand is not important as if it is important that each company knows that it can keep the entire market if it manages to get its rival out of the market.

In Bertrand's model, both the products that are produced and those that are sold are identical. They have identical production costs and unlimited production capacity. It implies that if one company manages to sink the other, it can keep the entire market.

Edgeworth duopoly model

The model of the British economist and statistician Francis Ysidro Edgeworth is also critical of the Cournot duopoly solution, about assuming that each company believes that its competitor will maintain the same production, regardless of their decisions.

The main difference between the Edgeworth and Bertrand models is that for Bertrand the production capacity of the duopoly company is unlimited and capable of satisfying any market demand. While in the Edgeworth model the productive capacity of duopoly companies is limited.

Thus, no company can satisfy the entire demand through low price ranges. Each company accepts and satisfies the demand for a product but at a price that allows it to meet.

In this model it is not essential that there be homogeneity in the products of the companies; Small price differences are sufficient for customers to switch products due to low prices.

Chamberlin model

The fourth classical model of non-collusive oligopoly was cited by the American economist Edward Hastings Chamberlin in his work The Theory of Monopolistic Competition. In this important work Chamberlin improved upon the classic oligopoly models known, including that of Cournot.

His contribution to economic science in this field lies in the explanation he offered about prices and production under oligopolistic market conditions. In his oligopoly model, he analyzes the theories of Cournot, Edgeworth, and Bertrand.

Contrary to these, Chamberlin states that oligopolists tacitly recognize their interdependence and therefore act accordingly. Chamberlin does not share the thesis of his predecessors, regarding the independent behavior of the oligopolists.

Real examples

Among the best-known oligopolies in the world is the Organization of the Petroleum Exporting Countries (OPEC), whose primary purpose is to fix prices and maintain market shares.

Currently, the most notable examples of oligopolies are observed in the United States, which is one of the icon countries of the oligopoly market. For example:

Media

Source: pixabay.com

The national and international media are one of the most representative oligopoly industries, since 90% of these are owned by six corporations: Time Warner (TWX), Walt Disney (DIS), NBC Universal, CBS Corporation (CBS), Viacom (VIAB) and News Corporation (NWSA).

Smart phones

Source: pixabay.com

Another sector dominated by oligopolies is that of smartphone operating systems and the computer market. Apple iOS and Google Android dominate most of the smartphone operating systems.

As for the market for operating systems for computers, Apple and Windows dominate.

Telephone services

Telephone tower. Source: wikipedia.com

Although there are other smaller cell phone service providers, the main companies that dominate the market are Verizon (VZ), AT & T (T), Sprint (S) and T-Mobile (TMUS).

Automotive industry

Automotive industry. Source: commons.wikimedia.org

This type of industry has always been dominated by oligopolistic companies such as Ford, General Motors and Chrysler.

Entertainment industry

Source: commons.wikimedia.org

The music industry is dominated by Universal Music Group, Warner, Sony, BMG and EMI Group, while content production for internet television is dominated by Netflix.

References

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2. What are some current examples of oligopolies? Consulted of investopedia.com
3. Oligopoly, characteristics. Consulted of amosweb.com
4. Oligopoly. Consulted of merriam-webster.com
5. Oligopoly. Consulted of investopedia.com
6. 5 Main Reasons for the Emergence of Oligopoly Market. Consulted of shareyouressays.com
7. 4 Classical Models of Oligopoly (with Problems). Consulted of yourarticlelibrary.com