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In oligopolistic markets, each firm makes production decisions conditional on its competitors’ actions. The resulting market equilibrium is known as a Nash equilibrium, one of the cornerstones of economic game theory. A Nash equilibrium occurs when each firm is doing its best given the actions of other firms. [Section 11.1]
Oligopolistic firms may be able to form cartels, in which all participating firms coordinate their production decisions and act collectively as a monopoly. The resulting market quantity and price are equal to those from a monopoly, and industry profit is maximized. While collusive behavior allows firms to capture monopoly profits, collusion and cartels are rarely stable because every firm has the incentive to increase its own profit by producing more (pricing lower). [Section 11.2]
In Bertrand competition, products are identical and firms compete on price. Each firm simultaneously sets the price of its good, and consumers then choose to purchase all of the quantity demanded from whichever firm has the lowest price, even if the price is only one penny lower. The Bertrand model shows that only two firms need to be in a market to achieve the perfectly competitive market outcome where price equals marginal cost. This result arises because firms in these situations have such a strong incentive to try to undercut the prices of their rivals. Market output is equal to the competitive level of output and firm profits are zero. [Section 11.3]
In contrast to firms in Bertrand competition, firms in Cournot competition simultaneously choose the quantity of a good to produce, and not the price at which the good sells. The Cournot equilibrium price is generally above the price in Bertrand competition, but below the monopoly price. The Cournot output is less than the Bertrand level of output, but greater than the output generated by a cartel. Firms in a Cournot oligopoly earn greater profits than those in the Bertrand model, but less than the monopoly profit. [Section 11.4]
In Stackelberg competition, firms make production decisions sequentially. Because the first firm in an industry can make production decisions independently of other firms and may be able to capture larger profits, a first-
In the Bertrand model with differentiated products, consumers in these markets are willing to substitute across goods, but do not consider them identical, or perfect substitutes. As a result, small differences in prices do not lead to all demand being satisfied by the producer with the lowest price (as in the Bertrand oligopoly with identical products). [Section 11.6]
Monopolistic competition is a market structure in which firms sell differentiated products, and firms have some characteristics of both monopolies and perfectly competitive firms. Because there are no barriers to entry in a monopolistically competitive market, economic profit is driven to zero through the entry of firms. [Section 11.7]