Page 194 - DECO405_MANAGERIAL_ECONOMICS

Unit 12: Oligopoly

The case showed that the airlines overcharged by $5.71 billion in the local market by Notes
imposing or increasing fuel surcharges during the eight-year period.
The uncovering of airline cartels on fuel surcharge actually began in 2006, when European
and US authorities investigated few airlines including British Airways. The investigation
came at a time when the airlines were facing high fuel costs and competition from low-
cost carriers.
The situation deteriorated further in 2007, as more airlines were inspected and charged for
various anti-competitive practices. European Commission charged several airlines for
fixing freight service prices. British Airways had to pay billions of dollars in fines as the
UK and the US competition authorities denounced it for price fixing during the period
2006-07.
Difficult to Detect
Cartelisation is very difficult to detect and investigate for its inherently secretive nature.
The task is more difficult in aviation industry because it operates across borders. As a
consequence of liberalisation, many large airlines such as British Airways and Lufthansa
are now privately owned. These are being increasingly scrutinised as they engage
themselves in collusive agreements.
In all the reported cartel cases, there was always one partner who spilled the beans with
the hope of getting away with lesser penalty or what is called as leniency. In the case of
British Airways, which was prosecuted in 2007, it was Virgin Airlines which cooperated
with the authorities.
Even in the Korean case, it was the Korean Airlines which applied for leniency by becoming
the prosecuting agency's 'friend'. Such a provision for leniency now exists in all competition
laws, including the one in India. In fact, leniency can be sought by more than one perpetrator
as the enquiry moves on thus buttressing the prosecution's case.
The Australian Competition & Consumer Commission has to date named 15 airlines in its
investigation and has already collected $38 million as fines while some of the cases are yet
to be decided.
The damage that airline cargo cartels cause by raising the surcharge rates is huge as
evident from the figures published by competition agencies. Consequently, the prices of
goods transported also get overburdened from artificial hikes thus affecting consumer
welfare adversely.
Source: www.thehindubusinessline.com

12.2.2 Price Leadership

This is an example of imperfect collusion among duopoly firms. It may result through tacit or
formal agreement as one firm sets the price and others follow it. Price leadership has two forms.

Price Leadership by a Low Cost Firm

Say, two firms A and B face identical demand curves (i.e., AR) and MR. If firm A has lower MC
and AC curves then MC < MC and AC < AC , as shown in Figure 12.2, firm A will maximise
1 2 1 2
its profit by equating MR to MC at point E and selling Q units at price P . Firm B will maximise
1 1 1 1
its profits by equating MR to MC at point E and selling Q units at price P . But firm B will not
2 2 2 2
be able to charge P price as firm A is charging P which is lower than P . The high cost firm will
2 1 2
then accept the leadership of the low cost firm and sell Q units at price P . The high cost firm
2 1
shall earn less profit than low cost firm.

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