Obviously, the motive is to protect, or increase, market share at the expense of immediate profits. At point Y, the organization would achieve maximum profit. Some of the major points of criticism are as follows: i. Cambridge: Cambridge University Press, 1994. First, it does not explain how the oligopolist finds the kinked point in its market demand curve.
This model should explain why. If the oligopolistic organization increases the price and rivals do not follow it, then consumers may switch to rivals. Classical economic theory assumes that a profit-maximizing producer with some market power either due to or will set equal to. This is the only diagrammatical one that you need to know for A level. On the other hand, if price falls, the rivals would also reduce their prices, thus, the sales of the oligopolistic organization would be less.
The shared profit will be higher than if the firms were competing with each other. The rival organizations would either follow price cuts, but not price hikes or they may not follow changes in prices at all. Our analysis shows that whether we use kinked demand curve of the type postulated by Sweezy, or Hall and Hitch prices are unlikely to be stable during the boom periods. When the cost of production falls, then segment of the demand curve above the current price will become more elastic because with lower costs there is a greater certainty that the increase in price by an oligopolist will not be followed by his rivals and will thus cause greater loss in sales. On the other hand, with lower cost the segment of the demand curve below the current price will become more inelastic because with the decline in costs, there is then greater certainty that the reduction in price by an oligopolist will be followed by his rivals. Second, in the model under discussion, the prices of the products are given initially, and a relation between these prices has been established already.
This demand curve is relatively flat above A and relatively steep below A. This is very difficult, so firms in oligopoly often avoid this uncertainty by colluding. As a result, the upper segment of the demand curve becomes more elastic, that is, it becomes more nearly horizontal. Thus it follows from the kinked demand curve theory that price is not likely to remain stable in the event of rise in cost. When the demand decreases, it becomes more certain that if one oligopolist initiates the reduction in price, others will follow with the result that the lower segment of the demand curve will become more inelastic.
This indicates that the firm will maximise its profit by producing 9,000 units at the industry-wide price of Rs 10. However when one seller increases price it will lose its customers however others will not increase price to retain customers. Note that the kink is the equilibrium, which in our example is the 80p litre of petrol. Let us understand price and output decisions under cartels with the help of an example. Assuming that overall demand is unlikely to rise substantially, all three firms will find that the rise in demand for their petrol is proportionately small compared with the proportionate fall in price, so their revenues fall. The diagram can also be used to explain why the price of petrol does tend to rise eventually. Thirdly, the rival organizations may follow price cut, but not price hike.
This is the price charged by all three firms in your area. Also, we assumed with petrol that demand in the market, as a whole was inelastic. These happy competitors will have therefore no motivation to match the price rise. With the smaller gap in the marginal revenue curve, the higher marginal cost curve is likely to cut it above the upper point H indicating that the equilibrium price will rise and the equilibrium output will fall. Often this is the result of a broken collusive agreement or cartel. In periods of depression, demand for the products decreases.
The oligopolist maximizes profits by equating marginal revenue with marginal cost, which results in an equilibrium output of Q units and an equilibrium price of P. Ignores the application of price leadership and cartels, which account for larger share of the oligopolistic market. The two market demand curves intersect at point b. The possibility of collusive behavior is captured in the alternative theory known as the cartel theory of oligopoly. New classical economists, led by , worked to discredit the kinked demand models. It says nothing about how firms arrived at the original price in the first place, and why they did not fix some different prices. Therefore, price and output would remain stable.
He further explains that the kinked demand analysis only suggests why prices remain sticky and does not describe the mechanism that establishes the kink and how the kink can reform once prices change. Large reduction in sales following an increase in price above the prevailing level by an oligopolist means that demand with respect to increases in price above the existing one is highly elastic. Non-price competition This is an important aspect of oligopoly because, as we have seen with the kinked demand curve model, price competition is difficult. The target was probably 'The Independent', but they seem to have survived. But it fails to explain how the industry-wide price was established in the first place.