Definition
An oligopoly refers to a market structure where a small number of firms have the large majority of market share. These few companies are able to control the prices and other market factors due to their powerful positions. It is characterized by high barriers to entry, which prevents new competitors from entering the market.
Key Takeaways
- An oligopoly is a market structure where a small number of firms have majority control over an industry. It is less competitive than other market structures due to the high barriers for entry for new potential competitors.
- Oligopolistic firms often engage in collusion or other types of non-competitive practices to maintain their market share. This can lead to higher prices and limited choices for consumers.
- In an oligopoly, firms are interdependent as each has to take into consideration the reactions of its competitors when making any business decisions regarding pricing, product design or marketing strategies.
Importance
Oligopoly is a critical term in finance and economics due to its implications on market structure, competition, and consumer choices.
It refers to a market scenario where a small number of firms have the large majority of market share.
This concentration of market power can lead to higher prices and lower output than in more competitive markets, potentially impacting consumer welfare and market efficiency.
Furthermore, in an oligopolistic market, the actions of one firm will directly impact others, fostering a high degree of interdependence.
Understanding oligopolies helps financial analysts, policy makers, and investors anticipate market dynamics, regulatory issues, price-setting mechanisms, and potential barriers to entrance, aiding informed decision making and strategizing.
Explanation
An oligopoly is a market condition where a limited number of firms dominate the industry, allowing them significant influence over the pricing and output of goods and services. This type of market structure is beneficial as it encourages healthy competition among the few players, further leading to product innovation and improved service delivery.
Moreover, owing to their dominant presence, these firms often have the financial capability to invest in research and development which enhances product quality and establishes a strong product differentiation, solidifying their market standing. However, the purpose of recognizing an oligopoly isn’t merely to demonstrate dominance; it brings to light potential disruption of a fair competitive market.
It forms a critical basis for regulatory policies because these large firms could potentially coordinate their actions to set higher prices or agree not to compete, creating a pseudo-monopoly, which is detrimental to consumer interests. Moreover, any newcomer businesses may find it challenging to enter the industry due to high barriers of entry set up by existing firms, such as significant capital requirements.
Hence, recognizing an oligopoly helps in implementing regulations for ensuring fair competition and consumer rights.
Examples of Oligopoly
Telecommunication Industry: In many countries, there are only a handful of providers, such as AT&T, Verizon, and T-Mobile in the United States. These companies set the prices for their services, and their pricing strategies directly affect each other. It is common for these companies to react to changes made by one provider. For example, if AT&T offers a new pricing plan, Verizon and T-Mobile will closely evaluate their plan and may make changes to remain competitive.
Oil Industry: Petroleum companies such as BP, ExxonMobil, and Shell dominate the global market. The setting of oil prices is largely influenced by the organizations and countries in control of the largest reserves. Smaller oil companies have little to no impact on market prices.
Commercial Aviation: This is largely dominated by two main manufacturers: Boeing and Airbus. These companies’ pricing and production decisions heavily impact each other. For example, if one company develops a new type of airplane, the other typically responds by developing a similar model.
Oligopoly FAQ
What is an Oligopoly?
An oligopoly is a market structure where a small number of firms has the large majority of market share. It’s a state of limited competition, in which a market is shared by a small number of producers or sellers.
What are the characteristics of an Oligopoly?
Oligopolies are characterized by having a small number of mutually interdependent companies. They typically have high barriers to entry and the firms within the oligopoly may either compete or collaborate with each other. Significant market power, unique products, and complex pricing decisions are also often present in an oligopoly.
How does Oligopoly affect the market?
Oligopolies can significantly impact the market by setting prices, total industry output, and investing in new innovations and advancements. With few companies controlling the market, they can also engage in destructive competitive behavior, such as forming a cartel to stifle competition.
What are some examples of Oligopoly?
In various industries, oligopolies are prevalent. For example, the smartphone industry is dominated by two firms, Apple and Samsung. Another example is the automobile industry, which is dominated by a handful of major companies such as Ford, General Motors, and Chrysler.
How different is Oligopoly from Monopoly?
While a monopoly refers to a single entity dominating the market, an oligopoly signifies a select few companies in control. In a monopoly, there is no competition as there is just one manufacturer or provider. In an oligopoly, limited competition exists because of the few companies.
Related Entrepreneurship Terms
- Market Concentration
- Price Setting
- Barriers to Entry
- Product Differentiation
- Non-Price Competition
Sources for More Information
- Investopedia: A comprehensive online resource for finance and investment terms and explanations.
- The Economist: A globally trusted source that covers a myriad of topics including financial terms like oligopoly.
- Encyclopedia Britannica: An authoritative general-knowledge source that also delves into finance and economic systems.
- Corporate Finance Institute: An educational platform that provides in-depth resources and definitions on various financial terms and concepts.
