Page 206 - DECO101_MICRO_ECONOMICS_ENGLISH

Unit 13: Oligopoly

13.2.2 Other Duopoly Models Notes

Bertrand’s Duopoly Model

This model assumes that the rival firm will keep its price constant irrespective of his own decision

about pricing. Thus each firm is faced by some market demand and aims at maximising its profi t
assuming that its competitor will not change its price.
The model uses the analytical tools of reaction functions of the duopolists derived on the basis of

isoprofit curves. These curves are drawn on the basis of various combinations of prices charged
by the rival fi rms for a given level of profi t. The equilibrium point is reached where the curves

of two firms intersect. The prices at which the two firms will sell their respective outputs is
determined by the point of equilibrium. This is a stable equilibrium.
The assumption that firms never learn from past experience is naive. Each firm maximises its

own profit but the joint profits are not maximised.

Edgeworth’s Model of Duopoly
This model also assumes that each seller assumes his rival’s price, instead of his output, to remain
constant. It is assumed that the entire market is equally divided between the two sellers who
face identical demand curves. A continuous price war goes on between the duopolists and the
equilibrium price goes on fluctuating. The equilibrium is unstable and indeterminate since price

and output are never determined. This model is also based on a naive assumption that each fi rm
continues to assume that his rival will never change its price even if he may change its own.

Stackelberg’s Duopoly Model

This is an extension of the duopolist model. It assumes that one of the duopolists is suffi ciently
sophisticated to recognise that his competitor acts on the Cournot assumption. This permits
the sophisticated duopolist to determine the reaction curve of his rival and incorporate it in his

own profit function. Consequently, he maximises his profit like a monopolist. He emerges as the

leader and a stable equilibrium emerges as the naive firm will act as a follower. However, if both

firms are sophisticated and act like leaders, disequilibrium results. There will either be a price

war until one of the firms surrenders or a collusion will be reached between the two fi rms.

Task Analyse Coke-Pepsi non price competition and its effect on their market.

13.2.3 Collusive Oligopoly Models

There can be two types of collusion (a) Cartels where firms jointly fix a price and output policy

through agreement, and (b) Price Leadership where one firm sets the price and others follow it.
Cartel

A cartel is a formal collusive organisation of the oligopoly firms in an industry. There may either
be an open or secret collusion. A perfect cartel is an extreme form of collusion in which member
firms agree to abide by the instructions from a central agency in order to maximise joint profi ts.

The profits are distributed among the member firms in a way jointly decided by the fi rms in
advance and may not be in proportion to its share in total output or the costs it incurs.

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