ECONOMICS U$A


Episode 20

OLIGOPOLY

PURPOSE:
To show that many markets are dominated by a small number of firms, and how these try to avoid price competition.

OBJECTIVES:
1. Most markets in the U.S. fall somewhere in between perfect competition and monopolies. Either there are only a few large firms in an industry (oligopoly), or there are many firms which sell differentiated products (monopolistic competition). Producers in these industries realize that price competition will only reduce profits for every firm in the industry so they often try to gain market power through non-price competition (e.g., product differentiation, advertising, and aggressive marketing).

2. When there are few firms in an industry, they may attempt to fix prices. This results in higher prices and less production of the good than would occur under perfect competition, and it adversely affects economic efficiency. Unregulated price fixing is illegal.

3. Large firms may be very helpful for stimulating long-term growth through R&D, by capturing economies of scale, by superior management, and through their efforts to grow larger.

4. In some industries (airlines, railroads, trucking) the government
has regulated prices to either help the industry grow or to control the pricing behavior of the industry. Generally, the affected industries favor regulation because it saves them from having to compete on the basis of price, but they often become very inefficient and have unnecessarily high costs.

KEY ECONOMIC CONCEPTS:
price leadership
non-price competition
concentration ratio
oligopoly
product differentiation
price collusion
monopolistic competition

Contemporary Issues Oligopoly

In the spring of 2003, MasterCard and Visa paid over $3 billion to settle a class action suit brought by Wal-Mart, Sears and other stores. The basis of the suit was a complaint that the credit car issuers were using their market power to 1) exclude the use of cards (specifically debit cards) issued by the retain store chains and 2) to dictate how their products were to be used. Specifically, the stores wanted to switch to a PIN-based system of debit cards, which is cheaper to administer than the signature based system that both Visa and MasterCard favored. How was this outcome and process different than an anti-trust suit brought by the government?


For a complete transcript of this video program download  TVpdf#20




Ford’s Model T
Henry Ford gave America its first mass produced car. He made it cheaper to buy and build. Ford’s vision was to produce the perfect car…inexpensive and durable. It came in only one color..black.
Alfred Sloan, President of Ford’s number one competitor, General Motors, knew he couldn’t sell his cars cheaper than Ford’s. He took a gamble that people wanted more from their cars than a ride and that they’d pay more for the color, variety and options that they knew they could get from GM. GM’s advertising suggested to the consumer that an automobile represented his/her status and personality. So GM sold cars by making them look a little classier than the Model T. GM’s Chevy was beginning to make the Model T look cheap. Ford didn’t believe that Americans could choose GMs style over Ford’s substance. By the time the Depression started in 1929, GM had overtaken Ford in number of cars sold and the Model T was history. Soon Ford brought out a new car that offered colors and options and colors like GM, but it was too, late. Ford had to settle for second place.

Comment and Analysis by Richard Gill
What you have in the case of the American automobile industry, especially in recent years, is competition between a relatively small number of firms. This is called an oligolopy. In general oligopolistic firms like to avoid price competition. The automobile story brings out two ways firms can avoid price competition—through production differentiation and advertising.
Price Fixing at TVA
The Tennessee Valley Authority brought electricity to millions. In 1959, Julian Granger, a reporter with the Knoxville News-Sentinel paper noticed that the primary suppliers to TVA, General Electric, Westinghouse and Allis-Chalmers, had quoted identical prices despite the fact that it was closed bidding. Tennessee Senator, Estes Kefauver headed a Senate Committee to go after anti-trust violators. As the investigation of TVA’s identical bids continued, executives from the big firms like GE and Westinghouse and Allis-Chalmers confessed and prosecutors began to unveil the design of the conspiracy.
They tried to raise the prices at which their products were sold, and made sure that each of them got what it believed to be a fair share of the market. They rigged the bid.
Executives were driven to do what they did by reason of being devoted to the company. Rigging the bids made life they reasoned would make life easier, and more predictable. They didn’t want to worry how much business they were going to have at year end. These firms and their executives risked fines and jail sentence to fix prices.

Comment and Analysis by Richard Gill
If businessmen do engage in illegal price-fixing from time to time, it is probably because setting prices in an industry dominated by a few firms is inherently difficult. Economists have sometimes argue that in the oligolpoly situation, companies will have to cling to whatever their current price is.

High Flying, Low Fares?
The airline industry is an oligopoly, dominated by a few big carriers. But it was an oligopoly with a difference. For its first fifty years, a federal agency, the Civil Aeronautics Board, not the market, set the fares and routes.
But by the 'sixties and 'seventies it was clear that the airlines had all the evils of monopoly and cartelization with the added ingredient of protection. And in a world of stagflation, of wage-price spirals, of inadequate productivity, it was clear to almost all, that consumers wanted the benefits of competition . . . and that meant deregulation.
President Carter appointed Professor Alfred Kahn as chief deregulator. At first, deregulation brought only winners. There were lower fares, higher profits and
new airlines. But then there were losers too. Braniff, Eastern, Pan Am, Peoples Airlines, all failed. Services deteriorated. Planes grew older, dirtier, maintanance poorer. Mergers and bankruptcies took their toll on the deregulators' dreams, of
aggressive wide-ranging competition in the airline. Then on 9/11 the airline industry took a huge hit. Almost every major carrier was pleading for a government bailout. There were exceptions. Southwest Airlines, with lower costs was competing successfully by offering lower fares and fewer frills. But by the middle of 2003 with fewer travelers and higher costs, America's major airlines were in big trouble.

Comment and Analysis by Nariman Behravesh
Has airline deregulation worked? That depends. Through mergers and
bankruptcies, many airlines have been forced out of business. However, deregulation succeeded in providing safe service to consumers at lowered costs . But many questions still remain about the future benefits of deregulation.