Business and Technology Essays

The case for oligopolies

An oligopoly is the most likely market structure to promote consumer welfare as it is likely to deliver the lowest prices. Oligopolies are made up of big firms who have greater economies of scale than firms in perfect or monopolistic competition. This means they can keep production costs lower and charge lower prices. Even though there are only a few firms in the market, if they are very competitive, then they will push prices down as far as possible to gain market share. For example, supermarkets in the UK – an industry with a 4 firm concentration of over 70% – continually lower prices. In 2015, the average prices of goods across the board fell 2.8%. Evidently, oligopolies can promote consumer welfare as they can deliver lower prices than other market structures. However, for price competition to exist, an oligopoly needs to be competitive. In reality, oligopolies often collude to sustain high prices to maximise abnormal profits. An example of this is the Quebec maple syrup cartel, which accounts for 77% of the world’s maple syrup supply.

Oligopolies can cause innovation to stagnate, reducing the number of product improvements that the consumers would benefit from. Oligopolistic firms often enjoy high levels of brand loyalty and a secure share of the market. This means it is difficult to take market share from other firms, leading to a lack of incentive to innovate. This is compounded by high entry barriers to an oligopolistic market; new firms that may have innovative potential find it difficult to establish themselves in the market. However, oligopolies do have a potential to be dynamically efficient with regard to product development. Their ability to generate long-term abnormal profits provide them with a capacity to invest in research and development. This would not have been possible in a perfectly competitive market since firms would not have enough scale to invest in R&D and since there is perfect information: the abnormal profit research could deliver would be short-lived and thus not worthwhile.

Oligopolies can deliver a higher level of product quality, increasing their value to consumers. They are likely not to engage in price competition but rather compete over their product quality. This is especially the case with non-essential goods. For example, the headphone industry is subject to high levels of brand loyalty and is less price competitive than most markets. Its quality can easily be measured against another product and so it must be kept high. Bose who make 20% of headphone sales in the US market compete by improving their quality as much as possible. However, oligopolistic firms may have a strong market share and brand loyalty and hence be disincentivised to increase development and production costs to increase quality. In fact, due to brand loyalty, oligopolistic firms often either reduce their quality of their products or concentrate on marketing, increasing the perceived quality.

Oligopolies limit the range of choice that consumers have. Oligopolies contain a small number of firms due to high entry barriers, restricting the consumer’s choice. For example, the 4 firm concentration ratio of the US airline industry stands at 70%, and as such, there is a limited choice of what flights to go on and what services each one offers. However, oligopolies can still deliver a range of choice and even making comparisons easier. For example the US sportswear market has a 4 firm concentration of over 85%, restricting the choice of brand, however, each firm offers 1000s of products for different purposes and at different price ranges. And since there are only a few firms to buy from, price comparison is easy, benefitting consumers who have “bounded rationality.” As such oligopolies can deliver high degrees of variety and choice.

Oligopolies have the potential to maximise consumer welfare more than any other market. The UK supermarket oligopoly demonstrates this well. However, this requires the market to be highly competitive. Otherwise, an oligopoly can result in higher prices and limited quality improvements. Oligopolies do not necessarily have to present a wide range of product variety, but they are perfectly capable of doing so if competition exists. Indeed, oligopolistic firms will compete in the aspect most important to the consumer; for airlines, they may compete more over price than quality of service or variety of choice. In this way, oligopoly can be the best market structure for consumer welfare when it is non-collusive.

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