Monopolistic Competition and Oligopoly
Most real markets fall between perfect competition and monopoly. Monopolistic competition has many firms selling differentiated products. Oligopoly has a few large firms dominating.
Monopolistic Competition
Many firms, differentiated products (branding, quality, location), free entry/exit, some price-setting power. Examples: restaurants, clothing brands, hairdressers. Each firm faces downward-sloping but relatively elastic demand.
Short-Run and Long-Run
Short run: MR = MC, can earn supernormal profits or losses. Long run: free entry/exit drives profits to normal. Demand curve tangent to ATC — P = ATC, profit = 0. Unlike perfect competition, firms don’t produce at minimum ATC — excess capacity exists.
Non-Price Competition
Firms compete through product differentiation: quality, design, branding, customer service, advertising. Advertising shifts demand right and may make it less elastic. Trade-off between variety (consumers value) and efficiency (minimum cost).
Oligopoly Characteristics
Few large firms dominate, products may be homogeneous or differentiated, high barriers to entry, and interdependence — each firm considers competitors’ reactions. This interdependence is the defining feature.
Kinked Demand Curve
Sweezy model: competitors match price cuts but don’t match increases. Result: kink at current price, elastic above (lose customers if raise price), inelastic below (gain few if cut price). Discontinuity in MR — explains price rigidity (‘sticky prices’).
Game Theory
Prisoner’s Dilemma: firms may not cooperate even when cooperation benefits both. Dominant strategy: best response regardless of rival’s action. Nash equilibrium: no firm can improve by changing strategy unilaterally. Often worse for firms than cooperation but better for consumers.
Collusion and Cartels
Collusion: firms agree to restrict competition — fix prices, divide markets, limit output. Cartels (OPEC) act as collective monopoly. Inherently unstable — each member wants to cheat. Illegal under competition law. Tacit collusion (price leadership) harder to detect.
Nepal Examples
Oligopolistic markets: telecom (Ncell, NTC), banking (few large commercial banks), cement (few producers), airlines (limited domestic carriers). These exhibit interdependent pricing, advertising, and barriers to entry.
Summary
Monopolistic competition and oligopoly describe most real markets. Product differentiation, game theory, kinked demand, and collusion dynamics are essential for competitive strategy.
Four Market Structures Comparison
| Feature | Perfect Competition | Monopolistic Competition | Oligopoly | Monopoly |
|---|---|---|---|---|
| Firms | Very many | Many | Few (2-10) | One |
| Product | Identical | Differentiated | Identical or differentiated | Unique |
| Entry | Free | Easy | Difficult | Blocked |
| Price Power | None (price taker) | Some (limited by substitutes) | Significant (interdependent) | Full (price maker) |
| Long-run Profit | Normal only | Normal only | Supernormal possible | Supernormal possible |
| Key Feature | Efficiency | Product differentiation | Interdependence | Barriers to entry |
| Nepal Example | Rice farmers | Restaurants, clothing | Telecom (Ncell, NTC), cement, banks | NEA (historically) |
Prisoner’s Dilemma Example: Ncell vs NTC
Two telecom companies deciding on pricing:
| NTC: Keep High Price | NTC: Cut Price | |
| Ncell: Keep High Price | Both earn Rs 500 crore (Best for industry) | Ncell: Rs 200 crore NTC: Rs 700 crore |
| Ncell: Cut Price | Ncell: Rs 700 crore NTC: Rs 200 crore | Both earn Rs 300 crore (Nash Equilibrium) |
Analysis: Each firm’s dominant strategy is to cut price (regardless of rival’s choice, cutting gives higher individual profit). Result: both cut, both earn Rs 300 crore — worse than if they cooperated (Rs 500 crore each). This is the Nash Equilibrium — neither can improve by changing strategy alone. It explains why oligopolies tend toward price competition even though cooperation would benefit all firms.
Nepal’s Oligopoly Markets
| Industry | Key Players | Oligopoly Behaviour Observed |
|---|---|---|
| Telecom | NTC, Ncell, Smart Cell | Price wars on data packages, similar pricing, heavy advertising |
| Banking | NIC Asia, Nabil, Global IME, Himalayan | Similar interest rates, non-price competition (digital services, branch expansion) |
| Cement | Hetauda, Udayapur, Shivam, Maruti | Allegations of price coordination, similar pricing across brands |
| Airlines | Buddha Air, Yeti Airlines, Nepal Airlines | Limited routes, similar fares, capacity constraints |
Exam Tips
Tip 1: The 4 market structures comparison table is the #1 most tested microeconomics question — memorise all features. Tip 2: Prisoner’s Dilemma with a payoff matrix is increasingly tested — understand dominant strategy and Nash Equilibrium. Tip 3: Nepal oligopoly examples (telecom, banking, cement) show applied knowledge. Tip 4: Kinked demand curve explains price rigidity — draw and explain why firms don’t change prices.