Monopolistic Competition

A market structure in which rms have market power, but no

additional rms can enter and earn positive prots. Three key
features:
1

The market is fragmented, i.e., many buyers and sellers.

There is

Firms produce horizontally dierentiated products, i.e., consumers

free entry

view them as

and

free exit.

imperfect substitutes.

They can have short-run prots, but because of free entry, in the long
run they will earn zero prot. Full capacity case.

Oligopoly

A market structure in which a small group of rms each inuence price

and enjoy substantial barriers to entry. The group of rms can
cooperate or not cooperate yielding,

Cooperation Cartels, collude together to maximize joint prots.

Non-cooperation Bertrand, Cournot and Stackelberg competition.

Cartels

A group of rms that coordinate setting prices and quantities (collude)

to make prot. The group acts like one big monopoly. So if there were
2 rms choosing quantities,
choose

Q = q1 + q2

q1

and

q2

then they would act together to

to maximize prots which they will evenly split.

They act to choose the same

that a monopolist would choose. In

game theory and industrial organization we are often interested in

what type of conditions must exist to maintain collusion between two
rms who each benet by cheating on each other.

Cournot Oligopoly

A set of rms, we'll assume two, 1 and 2, produce identical products

c1 (q1 ) and c2 (q2 ). They both face the

Q = q1 + q2 . The rms simultaneously
q1 and q2 . They maximize prot

at respective cost functions

market demand

P (Q )

choose their quantities

where

i = P (Q )qi ci (qi )
The outcome is that equilibrium quantity is greater than in Monopoly,
but less than the perfectly competitive outcome.

N-rm Cournot Competition

We have

rms producing identical products and we might assume

c . Each of the N rms

simultaneously choose quantities q1 , q2 , . . . , qN to maximize their
prot given the market demand function P (Q ) where
Q = q1 + q2 + + qN . The outcome depends upon the size of N .

that they each have constant marginal cost

N=1 This is the monopoly outcome

N=2- Typical Cournot outcomes (between Monopoly and
perfect competition)

N= When

is huge, the market approaches perfect

competition in the limit.

Stackelberg Model

rst-mover advantage.
P (Q )
choose quantities qi .

The Stackelberg model illustrates the idea of

Two rms, 1 and 2, produce identical products and face demand

with

Q = q1 + q2 .

Like Cournot, the rms

Unlike Cournot, the rms choose these quantities SEQUENTIALLY.

Bertrand Oligopoly

Two identical rms, 1 and 2, produce identical products at a constant

marginal cost

c.

The rms choose prices,

p1

and

p2

simultaneously

in a single period of competition. Because all the products are

identical, the rm with the lowest price gets all the customers while
the rm with the high price gets no customers. If the rms choose

p1 = p2

then they split sales evenly.

The non-cooperative equilibrium outcome is

equilibrium comes about by

price cutting

or

p1 = p2 = c .
a price war.

This