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Unit 13: Oligopoly

1. JS Bain (1956) argues that entry barriers should be defined in terms of any advantage that Notes

existing firms hold over potential competitors.
2. GJ Stigler (1968) contends that for any given rate of output, only those costs that must be
borne by new entrants but that are not borne by firms already in the industry should be

considered in assessing entry barriers.

If a firm has control over all iron ore deposits in a country, new entrants in the steel industry could
get ore only by transporting it from another foreign supplier. This will increase cost of producing

steel as compared to those of the existing firm and prevent the new firm from successful entry.
Both Bain and Stigler criteria for a barrier to entry are satisfied in this example. But if iron ore

deposits are equally available to the established firm and new entrants and the existing fi rm is

large enough to take advantage of highly efficient production technologies, then the new entrants
require to build large plants which are able to take advantage of economies of scale. Small
plants of new entrants will increase costs such that they cannot sell steel at a price competitive
with the established firm. Bain would consider this as a barrier to entry because of diffi culty in

coordinating and raising capital for large scale entry. However, Stigler’s definition would not

recognise scale economies as an entry barrier because the old and new firms both face same cost
conditions. That is, for any given rate of output produced, the cost per unit would be same for

the new and existing firm. Stigler’s position has appeal but Bain’s definition is more useful as it

includes all factors that impede entry and provides a better framework for understanding the
determination of market structure.
Four important sources of barriers to entry are:

1. Product differentiation: A firm may have convinced consumers that its product is
significantly better than the product of new entrants. The new firm may be forced to sell at

lower price and reduce profit though the existing product may not essentially be superior.

(e.g., Bayer’s Aspirin despite presence of chemically identical brands).
2. Control of inputs by existing suppliers: Examples are scarcity of natural resources,
locational advantages and managerial talent.
3. Legal restrictions: Examples are patents, licenses, exclusive franchises granted by
government.

4. Scale economies: A new firm entering the industry on a small scale will have higher
average cost of production. On the other hand, large scale entry may require gouge, capital
organisation, etc. Thus the ability of existing firms to expand gradually as compared to

the need for new entrants to start out with considerable production capacity can be a

substantial advantage for existing firms (automobile industry).

Case Study Paint Industry — From Pure Competition to Oligopoly
ven as the paints industry is poised for further large-scale consolidation, the last three
years have already resulted in some reshuffling of companies. In the struggle for the

Esurvival of the fittest, while some of the weaklings have faded away, the stronger

ones have gained more strength. The curious result — which, incidentally, is taking place
in other industries too — is that from the days when the industry operated under pure
competition, competition is slowly turning mesoeconomic (oligopolistic). In other words, it
is just a handful of companies which literally control the entire paints industry now.
As these companies extend their mesoeconomic power, they may impose unequal
conditions of competition in the market. In contrast with the traditional view of a fi rm, big
Contd...

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