An oligopoly is an economic situation in which a relatively small number of large companies dominate the market. Together they have such a market share that if they are combined, they could control the entire market.
Oligopolies often form when a few firms dominate a particular industry, such as in the oil, telecommunications, and airline industries.
High barriers to entry, such as influential brand names, economies of scale, and high capital costs often characterize oligopolies.
For example, the three major oil companies — BP, Shell, and ExxonMobil — substantially influence the global crude market. While they don’t have a complete monopoly, their collective market share and control over resources make them an oligopoly.
So, while technically competing, they usually follow the same strategies, prices, and tactics. As a result, it gives them a great deal of control over the market, and they can use it to their advantage.
Definition of Oligopoly
An oligopoly is a market model in which only a few manufacturers offer similar products. In other words, a market for specific goods or services is divided among a small number of large producers.
Lewis (2020) states that an oligopoly:
“…is a market structure with a small number of firms, none of which can keep the others from having significant influence” (p. 271).
An oligopoly is a cross between a monopoly and a fully competitive market with many participants who cannot influence prices. It is a market structure in which a few companies have the majority of the market share and dominate the industry.
According to OECD (1999),
“…oligopolies are markets where profit maximizing competitors set their strategies by paying close attention to how their rivals are likely to react” (p. 1).
As a rule, the oligopolistic market is dominated by 2 to 10 companies. At the same time, the entry of novice companies into it is much more difficult due to legislative restrictions or significant start-up capital.
So, in simple terms, an oligopoly is a market structure in which only a few firms dominate the entire industry with significant market power.
10 Examples of Oligopoly
- Automobile industry: The automobile industry is dominated by a few large companies, such as General Motors, Ford Motor Company, and Fiat Chrysler Automobiles, which together account for more than 80 percent of the market share in the United States.
- Telecommunications industry: The telecommunications skyline is dominated by a handful of corporate behemoths—AT&T, Verizon Communications, and Sprint Corporation—that tower over the business. These firms control most of the market share, resulting in an oligopoly.
- Airline industry: The airline industry is marked by oligopolistic competition, with a few large firms monopolizing the market. The four largest U.S. carriers—United Airlines, American Airlines, Delta Air Lines, and Southwest Airlines—control about 80 percent of domestic air travel.
- Banking industry: The banking sector is one of the most concentrated in the world, with just four banks, including JPMorgan Chase, Citigroup, Bank of America, and Wells Fargo, controlling nearly half of the market in the United States.
- Energy industry: In many countries, the energy industry is dominated by a few companies. In the United States, for instance, just three large firms—ExxonMobil, Chevron, and ConocoPhillips—account for 70 percent of the oil and gas production in the country.
- Fast-food industry: Fast-food industry is “oligopolized” by a handful of powerhouses, including McDonald’s, Burger King, and Wendy’s. Collectively, these three companies account for over half of the entire fast-food industry in America!
- Soft drink industry: Three enormous firms, Coca-Cola, PepsiCo, and Dr. Pepper Snapple Group, possess almost 90% of the U.S. soft drink market share – a fact that solidifies their oligopoly in this industry.
- Media industry: The media sector is a profoundly concentrated oligopoly, where the entire market is monopolized by just five colossal organizations – Disney, News Corp, Time Warner, CBS Corporation, and Viacom.
- Pharmaceutical industry: Pharmaceutical business is highly consolidated, with only three predominant companies- Pfizer, Merck & Co., and GlaxoSmithKline – possessing an overwhelming majority of the total market share at 85%.
- Retail industry: In the U.S. retail industry, three major corporations—Walmart, Target, and Amazon—dominate nearly half of the total sales. Their immense market power and control over prices make it exceptionally difficult for smaller businesses to get a foothold in this oligopoly.
Characteristics of Oligopoly
The main difference between an oligopoly and a free competition market is in the way decisions are made by individual participants who own a large market share.
Oligopolies have five key features:
- Non-price regulation – Companies cannot raise or lower prices at will. As a rule, the cost of a product or service from competitors fluctuates at the same level (Kuenne, 2016).
- The high entry barrier for newcomers – The market is dominated by a few large companies, which makes it difficult for new players to enter the market. They need to invest huge sums of money to gain market share.
- Goods produced by oligopolists are impossible or difficult to replace – Goods are difficult to replace because oligopolists have invested heavily in research and development to create unique products with no viable substitutes (Boyes & Melvin, 2016).
- The interdependence of the participants – Even though each company occupies a significant market share, it still depends on other players in making decisions and cannot radically change the state of affairs. For example, to increase the volume of supplies or production.
- Coverage of costs is possible only with large volumes of production – Oligopolists manufacture products in large quantities, which helps them to cover production costs and achieve high profits. It is because when the demand for the product increases, the company can make a higher profit because of its lower production costs.
Oligopolists are usually more profitable to cooperate with each other than to compete (Kuenne, 2016).
For example, an attempt to dump – deliberately lower prices – can lead to price wars. And a decline in prices or production volumes will not only reduce companies’ profits but also lead to the industry’s decline as a whole.
Oligopoly vs. Monopoly
The main difference between an oligopoly and a monopoly is the number of market participants. In an oligopoly, several firms control the market, while a monopoly is characterized by a single firm dominating the entire market.
A monopoly is a market organization in which only one company operates in a particular niche. Occupying a monopoly position, it itself chooses the direction of development and determines the pricing policy (Boyes & Melvin, 2016).
Monopoly can be natural (arising due to historical reasons) or artificial (arising due to state patronage and other administrative factors).
An oligopoly is a market organization in which several companies occupy a niche. Still, the entry of new entrants is limited. Unlike monopolies, oligopolies most often arise from natural causes (Kuenne, 2016).
The number of participants in the market can vary from two to five. In this case, each considers competitors’ behavior when making decisions and predicts their reaction to its actions.
So, an oligopoly is an intermediate between a monopoly and free market competition. It is characterized by the domination of several large companies while entering the market is difficult for newcomers.
|Definition||A market structure with a few large firms dominating the industry||A market structure with only one large firm dominating the industry|
|Number of firms||A few large firms||One large firm|
|Market power||Significant market power||Complete market power|
|Barriers to entry||High barriers to entry||Very high barriers to entry|
|Competition||Limited competition||No competition|
|Pricing||Firms tend to engage in price collusion and/or non-price competition||The monopolist has complete control over the price and quantity of goods or services|
|Product differentiation||Firms may differentiate their products to some extent||There is no close substitute for the monopolist’s product or service|
|Innovation||Firms may invest in research and development to gain an edge over competitors||The monopolist may have less incentive to innovate since there is no competition|
|Examples||Examples include telecommunications, airline, and automobile industries||Examples include the local electric utility, the postal service, and some pharmaceutical companies|
Types of Oligopoly
There are two types of oligopoly by type of product – heterogeneous and homogeneous. The former implies the sale of unique products, and in the latter case – identical ones.
- Heterogenous oligopolies: In a heterogeneous model, companies produce similar products, while consumers have a variety of options (Dwivedi. 2016). An example of such an oligopoly is the automotive industry. Machine manufacturers strive for differences in design, specifications, and materials.
- Homogeneous oligopolies: Homogeneous oligopolists trade products that do not differ in quality, attributes, and design. For example, three major oil companies – BP, Shell, and ExxonMobil dominate the world market in oil production (Dwivedi. 2016). Oil is a commodity that is hard to differentiate – no matter the brand, it is essentially the same commodity that you’re purchasing.
Additionally, researchers identify duopoly and oligopoly of collusion. A duopoly is formed when two companies control the entire market, and the oligopoly of collusion implies a combination of several companies that control the market by agreement.
|Homogeneous Oligopoly||Heterogeneous Oligopoly|
|Definition||A market structure with a few large firms producing and selling identical or very similar products or services||A market structure with a few large firms producing and selling differentiated products or services|
|Product differentiation||Products or services are identical or very similar||Products or services are differentiated based on factors such as quality, design, features, and branding|
|Pricing||Firms tend to engage in price collusion or follow the market leader||Firms may engage in non-price competition or use pricing strategies to differentiate their products and gain market share|
|Competition||Firms compete mainly on price||Firms compete on product differentiation, price, and other non-price factors|
|Market power||Firms may have significant market power||Firms may have varying degrees of market power depending on the level of product differentiation|
|Examples||Examples include the crude oil industry, cement industry, and steel industry||Examples include the soft drink industry, smartphone industry, and automobile industry|
Oligopoly Pricing Models
Depending on how market participants interact, economists distinguish four key oligopoly models – the leadership model, the cartel model, the Bertrand model, and the Cournot model.
Here are main characteristics of oligopoly pricing models:
1. Leadership Model
As a rule, among the companies that have divided the market, one stands out and occupies and maintains a dominant position (Dwivedi. 2016).
Usually, the leader is the first to make technological breakthroughs, set prices, and dictate development direction to other market participants. After that, the rest of the companies follow the leader, making the market look pretty consistent.
2. Cartel Model
This model is considered the best option for several oligopolists, allowing each to get the maximum profit. Cartels allow companies to operate as if there is a monopoly in the market. Together, they can prevent new players from entering the market.
3. Bertrand Model
Even if the companies agree on the market, each has its own interests. To gain market share, one company may start cutting prices. As a result, the other companies will have to do the same.
So, some companies suffer losses and leave the market, as a result of which, over time, there may be a single company with a monopoly position (Dwivedi. 2016).
4. Cournot Model
According to this model, each company tries to predict the state of the market to develop an optimal work strategy. Companies take into account their own production volumes, the expected reaction of competitors, and the price elasticity of demand.
Depending on the model assumptions, companies can reach a stable equilibrium, or the market can be constantly in flux (Dwivedi. 2016).
Oligopoly is a situation in the economy when several companies produce similar products. As a rule, there can be from three to ten participants.
Oligopolies are formed in complex, knowledge-intensive, costly areas such as oil production, aircraft construction, and the electric power industry. They have a very high entry threshold and a great dependence of companies on each other in pricing.
The main pricing models in an oligopoly are the leadership model, the Bertrand model, the Cournot model, and the cartel model. Companies can cooperate or compete to achieve the best results depending on the situation.
Boyes, W. J., & Melvin, M. (2016). Microeconomics. Cengage Learning.
Dwivedi, D. N. (2016). Microeconomics: Theory and applications. Pearson Education India.
Kuenne, R. E. (2016). Price and nonprice rivalry in oligopoly: The integrated battleground. St. Martin’s Press.
Lewis, J. C. (2020). World beyond reason: The orwellian factor. Dorrance Publishing.
OECD. (1999). Oligopoly 1999. In OECD. https://www.oecd.org/daf/competition/1920526.pdf