UNIT IV

PRODUCT PRICING
Syllabus:

● Concepts of firms, industry, equilibrium

● Perfect Competition Price and Output Determination, role of time element in the theory of
price determination.
● Monopoly –price and output determination, price discrimination.
● Monopolistic Competition, Price and Output determination, Selling Costs, Product
Differentiation, Wastes in monopolistic competition
● Oligopoly features, Duopoly, Monopsony

MARKETS
A market is any place where the sellers of a particular good or service can meet with the buyers
of that goods and service where there is a potential for a transaction to take place. The buyers
must have something they can offer in exchange for there to be a potential transaction. There is
a market for every commodity that has buyers and sellers, even though there is no specified
place where they meet. All that is required to constitute a market therefore is a commodity that
can be bought and sold some are willing to buy and others are willing to sell.
The buyers and the sellers can communicate with one another by words of mouth, by letter,
telephone, cable, internet or by wireless, the method or place does not matter. The definition of
the market points out two main features of an economic market. Firstly, there must be a free
competition among buyers and sellers. Secondly, as a result of this competition there must be
competitive price. The more organized a market is, the greater is the tendency to the same
price for the same thing at the same time throughout the market, even if it is worldwide.
Markets may be classified:
a) On the basis of area as local, national and international markets.
b) On the basis of time as market price on any particular day or moment, short period
price, long period price or secular markets covering a generation.
c) On the basis of nature of competition as perfect markets and imperfect markets.
Perfect and Imperfect Market
On the basis of competition between the sellers and buyers of a commodity, market may be
classified into two categories, namely Perfect Market and Imperfect Market.
Perfect market implies the following conditions:
(a) A large number of sellers and buyers
(b) Buyers know the prices charged by the different sellers of the commodity
(c) Only one price prevails in the market due to the competition between buyers and sellers.

But these conditions rarely exist in reality. The number of sellers or of buyers may be small and
as a result the competition between them may not be free or perfect. When there are a small
number of sellers, they can influence the price by selling more or less of the commodity. The
buyers may also be smaller in number and they can also influence the purchase price by
purchasing more or less of the thing. Different sellers may sell at different prices because each
seller controls a large part of the total supply. The same is the true of the big purchasers. The
buyers may be ignorant of the prices charged by the sellers or buyers may have preference for
particular sellers. As a result the sellers can sell at different price than others. These conditions
make market imperfect.

PERFECT COMPETITION
Perfect competition is a market structure characterized by a complete absence of rivalry among
individual firms. Thus perfect competition in economic theory has a meaning diametrically
opposite to the everyday use of this term. In practice, businessmen use the word competition
as synonymous to rivalry. In theory, perfect competition, implies no rivalry among firms.
Features of Perfect Competition
Perfect competition, is said to prevail when the following conditions are found in the market.
(1) Large number of buyers and sellers:
Under perfectly competitive market there are large number of buyers and sellers. The position
of a single seller in the market is just like a drop in the ocean. Each buyer purchases only a small
quantity of the total amount and each individual firm, however large, supplies only a small part
of the total quantity offered in the market. Each buyer and seller has no ability to influence the
ruling price by their independent action.
(2) Homogeneous Products:
The second condition of perfect competition is that the products sold by the suppliers are fully
homogeneous. The commodities available everywhere are the same. The products of various
sellers are indistinguishable from each other. They are perfect substitutes for one another.
There is no way in which a buyer could differentiate among the products off different firms. The
commodities are perfectly similar in quality, quantity, size and shape. The buyers are indifferent
to any commodity sold in the market. If the commodities sold in the market were differentiated,
each firm would have some discretion in setting its price.
The assumption of large number of buyers and sellers and of product homogeneity implies that
an individual firm in pure competition is a price taker: its demand curve is infinitely elastic,
indicating that the firm can sell any amount of output at the prevailing market price. The
demand curve of the individual firm is also its average revenue and its marginal revenue curve.
(3) Free entry and exit of firms:
Under perfect competition buyers and sellers are absolutely free to enter and leave the market.
No restriction is imposed on their entry and exit. This assumption is supplementary to the
assumption of large numbers. If barriers exist the number of firms in the industry may be
reduced so that each one of them may acquire power to affect the price in the market.
(4) Profit maximisation
The goal of all the firms is profit maximisation. No other goals are pursued.
(5) No Government regulation
There is no government intervention in the market (tariff, subsidies etc. are ruled out).
(6) Perfect knowledge
It is assumed that all sellers and buyers have complete knowledge of the conditions of the
market. This knowledge refers not only to the prevailing conditions in the current period but in
all future periods as well. Information is free and costless. Under these conditions uncertainty
about future developments in the market is ruled out.
(7) Perfect mobility of factors of production
Under perfect competition it is understood that various factors of production are perfectly
mobile within the industry. Factors of production can freely move from one occupation to
another and from one place to another. Raw materials and other factors are not monopolised
and labour is not unionised.

Equilibrium of the Firm

A firm is in equilibrium when it has no tendency to change its level of output. It needs neither
expansion nor contraction. It wants to earn maximum profits. Equilibrium of the firm can be
analysed in both short-run and long-run periods. A firm can earn abnormal profits or incur
losses in the short run. But in the long run, it can earn only normal profit.
Short-run Equilibrium
The short run is a period of time in which the firm can vary its output by changing the variable
factors of production in order to earn maximum profits or to incur minimum losses. The firm is
in equilibrium when it maximizes its profits, defined as the difference between total cost and
total revenue:
Π = TR – TC
Given that the normal rate of profit is included in the cost items of the firm, Π is the profit
above the normal rate of return on capital and the remuneration for the risk- bearing function
of the entrepreneur.
The equilibrium of the firm may be shown graphically in two ways. Either by using the TR and TC
curves, or the MR and MC curves.

1. Total Cost and Total Revenue Analysis:

In figure 5.2 we show the total revenue and total cost curves of a firm in a perfectly competitive
market. The total-revenue curve is a straight line through the origin, showing that the price is
constant at all levels of output. The firm is a price-taker and can sell any amount of output at
the going market price, with its TR increasing proportionately with its sales. The slope of the TR
curve is the marginal revenue. It is constant and equal to the prevailing market price, since all
units are sold at the same price. Thus in pure competition MR = AR = P.

The shape of the total-cost curve reflects the U shape of the average-cost curve, that is, the law
of variable proportions. The firm maximizes its profit at the output Xe, where the distance
between the TR and TC curves is the greatest. At lower and higher levels of output total profit is
not maximized at levels smaller than XAand larger than XB the firm has losses.
2. Marginal Revenue and Marginal Cost Approach
The alternative approach, which is based on marginal cost and marginal revenue, uses price as
an explicit variable, and shows clearly the behavioural rule that leads to profit maximization.
In figure 5.3 we show the average- and marginal-cost curves of the firm together with its
demand curve. The demand curve is also the average revenue curve and the marginal revenue
curve of the firm in a perfectly competitive market. The marginal cost cuts the SATC at its
minimum point. Both curves are U-shaped, reflecting the law of variable proportions which is
operative in the short run.
Two conditions must be satisfied for a firm to reach equilibrium:
1. Marginal cost should be equal to marginal revenue i.e., MC=MR. This condition is necessary
but not sufficient.
2. (Slope of MC) > (slope of MR).
The sufficient condition for equilibrium requires that the MC be rising at the point of its
intersection with the MR curve. This means that the MC must cut the MR curve from below, i.e.
the slope of the MC must be steeper than the slope of the MR curve.
In the figure 5.3 the firm is in equilibrium at point e, where both the conditions are satisfied and
in equilibrium it produces Xe level of output.

To the left of e profit has not reached its maximum level because each unit of output to the left
of Xe brings to the firm a revenue which is greater than its marginal cost. To the right of Xe each
additional unit of output costs more than the revenue earned by its sale, so that a loss is made
and total profit is reduced.
In summary:
(a) If MC < MR total profit has not been maximized and it pays the firm to expand its output.
(b) If MC > MR the level of total profit is being reduced and it pays the firm to cut its production.
(c) If MC = MR short-run profits are maximized.
Whether the firm makes excess profits, normal profits or losses depends on the level of the ATC
in the short-run equilibrium.
i. Supernormal Profits
In figure 5.5, the firm is in equilibrium at point e, where both conditions for equilibrium are
satisfied.
Total Revenue earned by the firm at equilibrium point e, TR = OXeeP
Total Cost incurred by the firm at e, TC = OXeBA
Profit = TR – TC = OXeeP - OXeBA = PAeB
Thus, If the ATC is below the price at equilibrium, the firm earns excess profits, equal to the area
PAeB.
ii. Loss
In the figure 5.6, the firm is in equilibrium at point e, where both conditions for equilibrium are
satisfied.
Total Revenue earned by the firm at equilibrium point e, TR = OXeeP
Total Cost incurred by the firm at e, TC = OXeCF
Loss = TR –TC = OXeeP - OXeCF = - FPeC
Thus, if the ATC is above the price the firm makes a loss, equal to the area FPeC.
In the latter case the firm will continue to produce only if it covers its variable costs. Otherwise
it will close down, since by discontinuing its operations the firm is better off, it minimizes its
losses. The point at which the firm covers its variable costs is called ‘the closing-down point.’ In
figure 5.7 the closing-down point of the firm is denoted by point w. If price falls below Pw the
firm does not cover its variable costs and is better off if it closes down.
Supply Curve of a Firm and Industry: Short-Run
Supply curve indicates the relationship between price and quantity supplied.
Short Run Supply Curve
(i) Short Run Supply Curve of a Firm:
Short run is a period in which supply can be changed by changing only the variable factors, fixed
factors remaining the same. That way, if the firm shuts down, it has to bear fixed costs. That is
why in the short run, the firm will supply commodity till price is either greater or equal to
average variable cost. Thus a firm will continue supplying the commodity till marginal cost is
equal to price or average revenue. Under perfect competition average revenue is equal to
marginal revenue, so the firm will produce up to that point where marginal revenue and
marginal cost are equal.
The Firm’s short period supply curve is that portion of its marginal cost curve that lies-above the
minimum point of the average variable cost curve. Short run supply curve of a firm can be
shown with the help of fig. 1.
From fig. 1 it is clear that there is no supply if price is below OP. At price less than OP, the firm
will not be covering its average variable cost. At OP price, OM is the supply. In this case, firms’
marginal revenue and marginal cost cut each other at A, OM is equilibrium output. If price goes
up to OP1, the firm will produce OM1 output. This firm’s short run supply curve starts from A
upwards i.e., thick line AB.
(ii) Short Run Supply Curve of an Industry:
An industry is a blend of firms producing homogeneous goods. That way, supply curve of an
industry is a horizontal summation of the supply curves of all firms. It is assumed that the factor
prices and technology are given and the number of firms is very large. Under these conditions
the total quantity supplied in the market at each price is the sum of the quantities supplied by
all firms at that price. The industry supply curve is a straight line with a positive slope.
Thus, under perfect competition, lateral summation of that part of short run marginal cost
curves of the firms which lie above the average variable cost constitutes the supply curve of the
industry. According to Stonier and Hague, “short run supply curve of a competitive industry will
always slope upwards since the short run marginal cost curve of the industrial firms always
slope upward.”

Short-Run Equilibrium of the Industry:

Given the market demand and market supply the industry is in equilibrium at that price which
clears the market that is at the price at which the quantity demanded is equal to the quantity
supplied. In figure 4 the industry is in equilibrium at price P, at which the quantity demanded
and supplied is Q. however, this will be a short run equilibrium, if at the prevailing price firms
are making excess profits, as in panel (b) of the figure where the firm is making an excess profit
of PE1ST or losses, as in panel (c) of the figure where the firm is incurring a loss of FGE2P.

In the long run, firms that make losses and cannot readjust their plant will close down. Those
that make excess profits will expand their capacity, while excess profits will also attract new
firms into the industry. Entry, exit and readjustment of the remaining firms in the industry will
lead to a long run equilibrium in which firms will just be earning normal profits and there will be
no entry or exit from the industry.

Long-run Equilibrium
In the long run firms are in equilibrium when they have adjusted their plant so as to produce at
the minimum point of their long-run AC curve, which is tangent (at this point) to the demand
curve defined by the market price.
In the long run the firms will be earning just normal profits, which are included in the LAC.
If they are making excess profits new firms will be attracted in the industry; this will lead to a fall
in price (a down- ward shift in the individual demand curves) and an upward shift of the cost
curves due to the increase of the prices of factors as the industry expands.
These changes will continue until the LAC is tangent to the demand curve defined by the market
price. If the firms make losses in the long run they will leave the industry, price will rise and
costs may fall as the industry contracts, until the remaining firms in the industry cover their total
costs inclusive of the normal rate of profit.
In figure 5.14 we show how firms adjust to their long-run equilibrium position. If the price is P,
the firm is making excess profits working with the plant whose cost is denoted by SAC1. It will
therefore have an incentive to build new capacity and it will move along its LAC. At the same
time new firms will be entering the industry attracted by the excess profits.
As the quantity supplied in the market increases (by the increased production of expanding old
firms and by the newly established ones) the supply curve in the market will shift to the right
and price will fall until it reaches the level of P1 (in figure 5.13) at which the firms and the
industry are in long-run equilibrium. The LAC in figure 5.14 is the final-cost curve including any
increase in the prices of factors that may have taken place as the industry expanded.

The condition for the long-run equilibrium of the firm is that the marginal cost be equal to the
price and to the long-run average cost
LMC = LAC = P
The firm adjusts its plant size so as to produce that level of output at which the LAC is the
minimum possible, given the technology and the prices of factors of production. At equilibrium
the short-run marginal cost is equal to the long-run marginal cost and the short-run average
cost is equal to the long-run average cost. Thus, given the above equilibrium condition, we have
SMC = LMC = LAC = LMC = P = MR
This implies that at the minimum point of the LAC the corresponding (short-run) plant is worked
at its optimal capacity, so that the minima of the LAC and SAC coincide. On the other hand, the
LMC cuts the LAC at its minimum point and the SMC cuts the SAC at its minimum point. Thus at
the minimum point of the LAC the above equality between short-run and long-run costs is
satisfied.
Long Run Supply Curve of a Firm:
Long run is a period in which supply can be changed by changing all the factors of production.
There is no distinction between fixed and variable factors. In the long run, firm produces only at
minimum average cost. In this situation, long run marginal cost, marginal revenue, average
revenue and long run average cost are equal i.e., LMC=MR = AR=LAC (minimum). The firm is
enjoying only normal profits.
So that position of marginal cost curve will determine the supply curve which is above the
minimum average variable cost. The point where minimum average cost is equal to marginal
cost is called optimum production. Thus Long Run Supply Curve of a firm is that portion of its
marginal cost curve that lies above the minimum point of the average cost curve.

In figure 3 the firm is in equilibrium at point E where MR=LMC=AR=LAC. LAC is minimum at this
point. This point E is also called optimum point That portion of LMC which is above E is called
long run supply curve.
Equilibrium of the industry in the long run:
The industry is in long-run equilibrium when a price is reached at which all firms are in
equilibrium (producing at the minimum point of their LAC curve and making just normal
profits). Under these conditions there is no further entry or exit of firms in the industry, given
the technology and factor prices. The long-run equilibrium of the industry is shown in figure
5.15. At the market price, P, the firms produce at their minimum cost, earning just normal
profits. The firm is in equilibrium because at the level of output X,
LMC = SMC = P = MR
This equality ensures that the firm maximizes its profit. At the price P the industry is in
equilibrium because profits are normal and all costs are covered so that there is no incentive for
entry or exit. That the firms earn just normal profit (neither excess profits nor losses) is shown
by the equality
LAC = SAC = P
which is observed at the minimum point of the LAC curve. With all firms in the industry being in
equilibrium and with no entry or exit, the industry supply remains stable, and, given the market
demand (DD’ in figure 5.15), the price P is a long-run equilibrium price.

MONOPOLY
The word monopoly has been derived from the combination of two words i.e., ‘Mono’ and
‘Poly’. Mono refers to a single and poly to control. “Monopoly is a market situation in which
there is a single seller. There are no close substitutes of the commodity it produces, there are
barriers to entry.”

Reasons for Emergence of Monopoly

A firm enjoys monopoly when it is the sole seller of its product and the product has no close
substitutes. The fundamental cause of monopoly is the barrier to entry.
The various reasons for emergence of Monopoly are:
1. Government licensing:
It means that before a firm can enter an industry, it needs to take permission from the
government. Licensing is used to ensure minimum standards of competency. By not granting
licenses to new firms, government aims to assure that only one firm operates in the market.
2. Patent Rights:
Certain big private companies are engaged in research and development activities. At times,
they come up with new products or new technologies. As a reward for their risk and investment
in research, government grants them patent right. The period for which patent rights are
granted is known as patent life. For example, ‘Xerox 914’ was the first marketable automatic and
plain-paper copier. So, it was granted 15-year exclusive patent rights to xerography (a dry
photocopying technique).
3. Cartel:
Under cartel, some firms retain their individual identities but coordinate their output and
pricing policies in order to act as a monopoly. The firms agree among themselves to restrict
their total output to the level that maximizes their joint profits. The most famous example of
Cartel is ‘Organisation of Petroleum Exporting Countries (OPEC)’ formed in 1960 that led to
virtual monopoly in the world market for oil.
4. Control on raw materials:
Monopoly also arises due to sole ownership or control of certain essential raw materials needed
in a particular industry.

Features of Monopoly
The various features of Monopoly are:
1. Single Seller:
Under monopoly, there is a single seller selling the product. As a result, the monopoly firm and
industry is one and the same thing and monopolist has full control over the supply and price of
the product. However, there are large numbers of buyers of monopoly product and no single
buyer can influence the market price.
2. No Close Substitutes:
The product produced by a monopolist has no close substitutes. So, the monopoly firm has no
fear of competition from new or existing products. For example, there is no close substitute of
electricity services provided by NDPL. However, the product may have distant substitutes like
inverter and generator.
3. Restrictions on Entry and Exit:
There exist strong barriers to entry of new firms and exit of existing firms. As a result, a
monopoly firm can earn abnormal profits and losses in the long run. These barriers may be due
to legal restrictions like licensing or patent rights or due to restrictions created by firms in the
form of cartel.
4. Price Discrimination:
A monopolist may charge different prices for his product from different sets of consumers at the
same time. It is known as ‘Price Discrimination’.
5. Price Maker:
In case of monopoly, firm and industry are one and the same thing. So, firm has complete
control over the industry output. As a result, monopolist is a price-maker and fixes its own price.
It can influence the market price by changing the supply of the product.

Nature of Demand and Revenue curves under Monopoly:

Under monopoly, it becomes essential to understand the nature of demand curve facing a
monopolist. In a monopoly situation, there is no difference between firm and industry.
Therefore, under monopoly, firm’s demand curve constitutes the industry’s demand curve.
Since the demand curve of the consumer slopes downward from left to right, the monopolist
faces a downward sloping demand curve. It means, if the monopolist reduces the price of the
product, demand of that product will increase and vice- versa. (Fig. 1).

In Fig. 1 average revenue curve of the monopolist slopes downward from left to right. Marginal
revenue (MR) also falls and slopes downward from left to right. MR curve is below AR curve
showing that at OQ output, average revenue (= Price) is PQ whereas marginal revenue is MQ.
That way AR > MR or PQ > MQ.
Costs under Monopoly:
Under monopoly, shape of cost curves is similar to the one under perfect competition. Fixed
costs curve is parallel to OX-axis whereas average fixed cost is rectangular hyperbola. Moreover,
average variable cost, marginal cost and average cost curves are of U-shape. Under monopoly,
marginal cost curve is not the supply curve. Price is higher than marginal cost. Here, it is of
immense use to quote that a monopolist is not obliged to sell a given amount of a commodity at
a given price.
Supply curve of a monopolist:
An important feature of the monopoly is that, unlike a competitive firm, the monopolist does
not have the supply curve. It is worth noting that the supply curve shows how much output a
firm will produce at various given prices of a product.
The supply curve of a product by a firm traces out the unique price-output relationship. The
concept of supply curve is relevant only when the firm exercises no control over the price of the
product and therefore takes it as given.
But a monopolist does not take the price as given and exercises control over the price of the
product as he is the sole producer of the product. Further, for a monopoly firm demand curve
slopes downward and marginal revenue (MR) curve lies below it.
Therefore, a monopolist in order to maximise profits does not equate price with marginal cost;
instead he equates marginal revenue with marginal cost. As a result, shifts in demand causing
changes in price do not trace out a unique price-output series as happens in case of a perfectly
competitive firm.
In fact, under monopoly shifts in demand can lead to a change in price with no change in output
or a change in output with no change in price or they can lead to changes in both price and
output. This renders the concept of supply curve inapplicable and irrelevant under conditions of
monopoly.
Thus, there is no unique price-quantity relationship, since quantity supplied by a firm under
monopoly is not determined by price but instead by marginal revenue, given the marginal cost
curve. This is illustrated in the figure below (fig. 26.13).
Suppose the demand curve is initially D1, corresponding to which MR1 is the marginal revenue
curve. Given the marginal cost curve MC, monopolist is in equilibrium at OM level of output and
charging price OP1.
Now, suppose that demand curve shifts to the position D2 corresponding to which MR2 is the
marginal revenue curve. It will be seen from Fig. 26.13 that the new marginal revenue curve
MR2 also intersects the given marginal cost curve MC at the same level of output OM as before
the shift in the demand curve but price has risen to OP2.
Thus we see that under monopoly, a shift in demand may lead to the production and supply of
the same output at two different prices. This clearly shows that there is no unique price-output
relationship which is essential for the concept of supply curve to be applicable.
Figure 26.14 illustrates another special case where shift in demand leads to the different levels
of output being supplied at the same price.
Initially, with D1, and MR1 as the demand and marginal revenue curves respectively, the
monopolist maximises his profits by producing output OM1 and charging price OP.
With the shift in demand curve to D2 and the marginal revenue curve to MR2, the marginal cost
curve MC cuts the new MR2 curve at E2 and it will be observed from Figure 26.14 that in the
new equilibrium, the monopolist produces higher quantity OM2 at the same price OP. This again
shows that under monopoly there is no any specific quantity of the product supplied at a price.
To sum up, under monopoly, there is no supply curve associating a unique output with a price.
Shift in demand may lead to either change in price with the same output being produced and
supplied or it may lead to the change in output with same price.
However, usually the shift in demand would lead to the changes in both output and price. How
price and output will change as a result of shift in demand depends not only on the marginal
cost curve but also on the price elasticity of demand.

Equilibrium of the monopolist

Under monopoly, for the equilibrium output and price determination there are two different
conditions which are:
1. Marginal revenue must be equal to marginal cost.
2. MC must cut MR from below.
Short Run Equilibrium under Monopoly:
Short period refers to that period in which the monopolist has to work with a given existing
plant. In other words, the monopolist cannot change the fixed factors like, plant, machinery etc.
in the short period. Monopolist can increase his output by changing the variable factors. In this
period, the monopolist can enjoy super-normal profits, normal profits and sustain losses.
These three possibilities are described as follows:
Super Normal Profits:
If the price determined by the monopolist is more than AC, he will get super normal profits. The
monopolist will produce up to the level where MC=MR. In the Figure 3 output is measured on
X-axis and price on Y-axis. SAC and SMC are the short run average cost and marginal cost curves
while AR or MR are the average revenue or marginal revenue curves respectively.

The monopolist is in equilibrium at point E because at point E both the conditions of equilibrium
are fulfilled i.e., MR = MC and MC intersects the MR curve from below. At this level of
equilibrium the monopolist will produce OQ1 level of output and sells it at CQ1 price which is
more than average cost DQ1 by CD per unit.
Total Revenue = Price x Quantity = OACQ1
Total Cost = OBDQ1
Profits = TR – TC = OACQ1 – OBDQ1 = ABDC
Therefore, in this case total profits of the monopolist will be equal to shaded area ABDC.
1Normal Profits:
A monopolist in the short run would enjoy normal profits when average revenue (=Price) is just
equal to average cost. We know that average cost of production is inclusive of normal profits.
This situation can be illustrated with the help of fig 4.
In Fig. 4 the firm is in equilibrium at point E where, marginal cost is equal to marginal revenue
and MC cuts MR from below. The firm is producing OM level of output at point E.
Total revenue = OMRP
Total Cost = OMRP
Thus total revenue is equal to total costs and therefore the firm is enjoys normal profits.
Minimum Losses:
In the short run, the monopolist may have to incur losses. This situation occurs if the price is
less than average cost. The firm will stop production if price is less than AVC. Therefore,
equilibrium price will be equal to average variable cost. This situation can also be explained with
the help of Fig. 5.

In Fig. 5 monopolist is in equilibrium at point E. At point E marginal cost is equal to marginal

revenue and MC cuts MR from below and he produces OM level of output. At OM level of
output, equilibrium price fixed by the monopolist is OP1. At OP1 price, AVC touches the AR curve
at point A. It signifies that the firm will cover only average variable cost from the prevailing
price.
Total Revenue, TR = OP1 x OM = OP1AM
Cost per unit is OP. Therefore,
Total Cost, TC = OP x OM = OPNM
Loss = TR –TC = OP1AM – OPNM = PP1AN
The firm will bear the total loss equal to the shaded area PP1 AN. Now if the price falls below
OP1, the monopolist will stop production.
Long Run Equilibrium under Monopoly:
Long-run is the period in which output can be changed by changing the factors of production. In
other words, all variable factors can be changed and monopolist would choose that plant size
which is most appropriate for specific level of demand. If the monopolist is incurring a loss in
the short run and there is no plant size that can earn profit, then in the long run the monopolist
will go out of business. If he is already making profit, then in the long run, he will try to see if he
can increase his profit by varying the size of the plant. A monopolist can, in the long run,
construct each plant of such a size that SAC coincides with LAC at its minimum point.
Here, the conditions for equilibrium are:
1. LMC =MR
2. LMC cuts MR from below.
This can be shown with the help of Fig. 6.

In Fig. 6 monopolist is in equilibrium at OM level of output. At OM level of output marginal

revenue is equal to long run marginal cost and the monopolist fixes OP price. HM (=OP1) is the
long run average cost per unit. Price OP being more than LAC i.e., HM which fetch the
monopolist super normal profits.
Total Revenue, TR = OP x OM = OPJM
Total Cost, TC = OP1 x OM = OP1HM
Profit = TR –TC = OPJM – OP1HM = PP1HJ
His total super normal profits will be equal to shaded area PP1HJ.

PRICE DISCRIMINATION – MEANING, TYPES & CONDITIONS

Price discrimination is the practice of charging different prices from different customers or for
different units of the same product.

Types of Price Discrimination:

Price discrimination is a common pricing strategy’ used by a monopolist having discretionary

pricing power. This strategy is practiced by the monopolist to gain market advantage or to
capture market position.

The different types of price discrimination are:

i. Personal:Refers to price discrimination when different prices are charged from different
individuals. The different prices are charged according to the level of income of consumers as
well as their willingness to purchase a product. For example, a doctor charges different fees
from poor and rich patients.

ii. Geographical:Refers to price discrimination when the monopolist charges different prices at
different places for the same product. This type of discrimination is also called dumping.

iii. On the basis of use: Occurs when different prices are charged according to the use of a
product. For instance, an electricity supply board charges lower rates for domestic consumption
of electricity and higher rates for commercial consumption.

Degrees of Price Discrimination:

Price discrimination has become widespread in almost every market. The degree of price
discrimination varies in different markets.

i. First-degree Price Discrimination (Personalized Pricing):

First-degree price discrimination, alternatively known as perfect price discrimination, occurs
when a firm charges a different price for every unit consumed. The firm is able to charge the
maximum possible price for each unit which enables the firm to capture all available consumer
surplus for itself. In practice, first-degree discrimination is rare.

ii. Second-degree Price Discrimination (Product Versioning/Menu pricing):

One way firms practice price discrimination is to offer slightly different products as a way to
discriminate between consumers ability to pay. For example:
● Priority boarding tickets. Same flight but for a premium, you get a shorter queue.
● Organic coffee / fair trade coffee
● Extra legroom on airplanes
● First-class/second class
This is a form of indirect segmentation. By offering slightly different choices, the firm is able to

separate consumers who are willing to pay higher prices. In this degree of discrimination, the
consumers enjoy some amount of consumer’s surplus.

iii. Third-degree Price Discrimination (Group Pricing):

Refers to a price discrimination in which the monopolist divides the entire market into
submarkets and different prices are charged in each submarket. Therefore, third-degree price
discrimination is also termed as market segmentation.

In this type of price discrimination, the monopolist is required to segment market in a manner,
so that products sold in one market cannot be resold in another market. The groups are divided
according to age, sex, and location. For instance, railways charge lower fares from senior
citizens. Students get discount in cinemas, museums, and historical monuments. Third-degree
discrimination is the commonest type.

Necessary Conditions for Price Discrimination:

Price discrimination implies charging different prices for identical goods.

It is possible under the following conditions:

i. Existence of Monopoly: Implies that a supplier can discriminate prices only when there is
monopoly. The degree of the price discrimination depends upon the degree of monopoly in the
market.

ii. Separate Market: Implies that there must be two or more markets that can be easily
separated for discriminating prices. The buyer of one market cannot move to another market
and goods sold in one market cannot be resold in another market.

iii. No Contact between Buyers: Refers to one of the most important conditions for price
discrimination. A supplier can discriminate prices if there is no contact between buyers of
different markets. If buyers in one market come to know that prices charged in another market
are lower, they will prefer to buy it in other market and sell in own market. The monopolists
should be able to separate markets and avoid reselling in these markets.

iv. Different Elasticity of Demand: Implies that the elasticity of demand in the markets should
differ from each other. In markets with high elasticity of demand, low price will be charged,
whereas in markets with low elasticity of demand, high prices will be charged. Price
discrimination fails in case of markets having same elasticity- of demand.

MONOPOLISTIC COMPETITION
Monopolistic Competition refers to a market situation in which there are large numbers of firms
which sell closely related but differentiated products. Markets of products like soap, toothpaste
AC, etc. are examples of monopolistic competition. The market structure shares features of both
perfect competition and monopoly.
Monopoly + Competition = Monopolistic Competition
Under monopolistic competition, each firm is the sole producer of a particular brand or
“product”.
i. It enjoys ‘monopoly position’ as far as a particular brand is concerned.
ii. However, since the various brands are close substitutes, its monopoly position is influenced
due to stiff ‘competition’ from other firms.
So, monopolistic competition is a market structure, where there is competition among a large
number of monopolists.

Features of Monopolistic Competition:

1. Large Number of Sellers:
There are large numbers of firms selling closely related, but not homogeneous products. Each
firm acts independently and has a limited share of the market. So, an individual firm has limited
control over the market price. Large number of firms leads to competition in the market.
2. Product Differentiation:
Each firm is in a position to exercise some degree of monopoly (in spite of large number of
sellers) through product differentiation. Product differentiation refers to differentiating the
products on the basis of brand, size, colour, shape, etc. The product of a firm is close, but not
perfect substitute of other firm. The differentiation among different competing products may be
based on either ‘real’ or ‘imaginary’ differences.
(i) Real Differences may be due to differences in shape, flavour, colour, packing, after sale
service, warranty period, etc.
(ii) Imaginary Differences mean differences which are not really obvious but buyers are made to
believe that such differences exist through selling costs (advertising).
3. Selling costs:
Under monopolistic competition, products are differentiated and these differences are made
known to the buyers through selling costs. Selling costs refer to the expenses incurred on
marketing, sales promotion and advertisement of the product. Such costs are incurred to
persuade the buyers to buy a particular brand of the product in preference to competitor’s
brand. Due to this reason, selling costs constitute a substantial part of the total cost under
monopolistic competition.
4. Freedom of Entry and Exit:
Under monopolistic competition, firms are free to enter into or exit from the industry at any
time they wish. It ensures that there are neither abnormal profits nor any abnormal losses to a
firm in the long run. However, it must be noted that entry under monopolistic competition is
not as easy and free as under perfect competition.
5. Lack of Perfect Knowledge:
Buyers and sellers do not have perfect knowledge about the market conditions. Selling costs
create artificial superiority in the minds of the consumers and it becomes very difficult for a
consumer to evaluate different products available in the market. As a result, a particular
product (although highly priced) is preferred by the consumers even if other less priced
products are of same quality.
6. Pricing Decision:
A firm under monopolistic competition is neither a price- taker nor a price-maker. However, by
producing a unique product or establishing a particular reputation, each firm has partial control
over the price. The extent of power to control price depends upon how strongly the buyers are
attached to his brand.
7. Non-Price Competition:
In addition to price competition, non-price competition also exists under monopolistic
competition. Non-Price Competition refers to competing with other firms by offering free gifts,
making favourable credit terms, etc., without changing prices of their own products.

Demand Curve under Monopolistic Competition:

Under monopolistic competition, large number of firms selling closely related but differentiated
products makes the demand curve downward sloping. It implies that a firm can sell more
output only by reducing the price of its product.
MR < AR under Monopolistic Competition
Like monopoly, MR is less than AR under monopolistic competition due to negatively sloped
demand curve. Demand curve under monopolistic competition is more elastic as compared to
demand curve under monopoly. This happens because differentiated products under
monopolistic competition have close substitutes, whereas there are no close substitutes in case
of monopoly.
Equilibrium Price and Output under Monopolistic Competition:
Since under monopolistic competition, different firms produce different varieties of the
product, therefore, different prices for them will be determined in the market depending upon
their respective demand and cost conditions. Under monopolistic competition, individual firm’s
market is isolated to a certain degree from those of its rivals with the result that its sales are
limited and depends upon:
(1) Its price,
(2) The nature of its product, and
(3) The advertising outlay it makes.
Thus, the firm under monopolistic competition has to confront a more complicated problem
than the perfectly competitive firm. Equilibrium of an individual firm under monopolistic
competition involves equilibrium in three respects, that is, in regard to the price and output, the
nature of the product, and adjustment of selling costs. In other words, the producer, under
monopolistic competition, must make optimal adjustments not only in the price charged and as
regards the quantity of output sold but also in the design of the product and the way in which
he promotes the sales.
The equilibrium under monopolistic competition involves “individual equilibrium” of the firms
as well as “group equilibrium”.
Individual Firm’s Equilibrium under Monopolistic Competition:
The demand curve for the product of an individual firm is downward sloping. Since close
substitutes for its product are available in the market, the demand curve for the product of an
individual firm working under conditions of monopolistic competition is fairly elastic. Thus,
although a firm under monopolistic competition has a monopolistic control over its variety of
the product but its control is tempered by the fact that there are close substitutes available in
the market and that if it sets too high a price for its product, many of its customers will shift to
the rival products.
The individual equilibrium under monopolistic competition is graphically shown in Fig. 28.3. DD
is the demand curve for the product of an individual firm, the nature and prices of all
substitutes being given. This demand curve DD is also the average revenue (AR) curve of the
firm. AC represents the average cost curve of the firm, while MC is the marginal cost curve
corresponding to it. Given these demand and cost conditions a firm will adjust his price and
output at the level which gives it maximum total profits.
The two conditions for equilibrium are:
1. MC =MR
2. MC should cut MR from below.
In the figure above, the firm reaches equilibrium at point E, where both conditions for
equilibrium are satisfied. Equilibrium level of output is OM and price is MQ = OP.
Total Revenue, TR = price x Quantity = OP x OM = OPQM
Total Cost, TC = Cost per unit x Quantity = OR x OM = ORSM
Profit = TR –TC = OPQM – ORSM = PQSR
Thus, the shaded area PQSR indicates the amount of supernormal profits made by the firm.
In the short-run, the firm, in equilibrium, may make losses too if the demand conditions for its
product are not so favourable relative to cost conditions. Fig. 28.4 depicts the case of a firm
whose demand or average revenue curve DD for the product lies below the average cost curve
throughout indicating thereby that no output of the product can be produced at positive profits.
The firm reaches equilibrium at point E, where both the conditions for equilibrium are satisfied.
At equilibrium, the firm produces ON level of output and charges a price KN =OT.
Total Revenue, TR = Price x Quantity = OT x ON = OTKN
Total Cost, TC = Cost per unit x Quantity = OG x ON = OGHN
Loss = TR – TC = OTKN – OGHN = -GTKH
Thus, the shaded area GTKH represents the loss incurred by the firm.
Further, a firm may be making only normal profits even in the short run if the demand curve
happens to be tangent to the average cost curve.
Thus in the short-run, the monopolistically competitive firm may either realise profits or suffer
losses.
Long-Run Equilibrium of Firm and Group under Monopolistic Competition:
We may now turn to see how the ‘group’ comes to be in equilibrium. In other words, we have
now to explain how the equilibrium adjustment of prices and outputs of a number of firms
whose products are close substitutes comes about.
Each firm within a group has monopoly of its own particular product, yet its market is
interwoven with those of his competitors who produce closely related products. The price and
output decisions of a firm will affect his rival firms who may in turn revise their price and output
policies. This dependence of the various producers upon one another is a prominent feature of
monopolistic competition.
A difficulty faced in describing the group equilibrium is the vast diversity of conditions which
exist in respect of many matters between the various firms constituting the group. The product
of each firm has special characteristics and adapted to the tastes and preferences of its
customers. The qualitative differences among the products lead to the large variations in cost
and demand curves of the various firms. In order to simplify the analysis of equilibrium,
Chamberlin ignores these diverse conditions surrounding each firm and assumes the demand
and cost to be uniform across all the firms, and it is called uniformity assumption.
He also makes Symmetry assumption - It is that the number of firms is large under monopolistic
competition, an individual’s actions regarding price and output adjustment will have a negligible
effect upon its numerous competitors so that they will not think of retaliation for readjusting
their prices and outputs.
Given the above assumptions, we proceed to explain how under monopolistic competition an
individual firm and a group of firms producing close substitutes come to be in equilibrium
position.
In the long run supernormal profits will disappear. This is because as entry is free, new firms will
enter the industry, if the existing firms are making supernormal profits. As new firms enter and
start production, supply will increase and the price will fall. AR curve will shift to the left and the
supernormal profits will be wiped away and the firms will earn only normal profits. If in the
short-run firms are incurring losses, the, in the long-run, some firms will leave the industry.
In the long run, the AR curve will be more elastic since larger number of substitutes will be
available in the long run. Therefore in the long run equilibrium is established when firms are
earning only normal profits. Profits are normal only when average revenue = average cost.
Thus in the long run, the conditions for equilibrium are:
1. LMC =MR
2. LMC should cut MR from below
3. Average Revenue = LAC

The firm reaches equilibrium at point E where MC = MR and MC cuts MR from below.
Corresponding to point E, AR curve is tangent to LAC and hence AR = LAC. Thus all the
conditions for equilibrium are satisfied. In equilibrium, the firm produces OQ level of output and
charges price TQ = OP.
Wastes in Monopolistic Competition
The following points highlight the six major wastes of monopolistic competition. The wastes are:
1. Competitive Advertisement
2. Product Differentiation
3. Expenditure on Cross Transportation
4. Inefficient Firms
5. Excess Capacity
6. Unemployment.

1. Competitive Advertisement:
One of the important wastes of monopolistic competition is the incurring of expenditure on
competitive advertisement by firms. Excess advertisement adds to costs and prices. Expenditure
on packing, colour, flavour, etc. and on media like TV, radio, cinema, newspapers, etc. create
unnecessary product differentiation.

As a result, irrational preference for certain brands of products are created in the minds of
consumers which tend to push the sales of one firm at the cost of others. Expenditure of
competitive advertisement is also resorted to by all firms at least to keep their respective
customers attached to their brand of the product. But all such expenditure is socially wasteful.

2. Product Differentiation:

Another waste of competition is the production of varieties of a product which each firm
produces. This is done by creating artificial or imaginary product differentiation so as to
distinguish the product of one seller from those of another. This is done by changing the colour,
design, fragrance, packing, etc. of the same product by the same producer. For instance, The
Brooke Bond Tea Company sells such brands of tea as Green Label, Red Label, Yellow Label, etc.

Thus each firm produces varied assortment of types and qualities for its own customers and
often confusing them. Rather than producing only one type of product and charging uniform
price, they charge different prices for each brand of the same product. Thus a large number of
brands, styles, etc. confuses the consumer and adds to costs and prices, thereby making the
products costly. This leads to wastage of resources and to loss of economic efficiency.

3. Expenditure on Cross Transportation:

The expenditure on cross transport is another waste of monopolistic competition. Each producer
tries to sell his products in the far-off markets rather than in the markets near its place of
manufacture. This involves huge transport costs and also expenses on advertisement and
propaganda. Rather than save these expenses and reduce prices, firms under monopolistic
competition prefer to incur expenses on transportation and advertisement. This is apparently
wastage of resources.

4. Inefficient Firms:
Under monopolistic competition, there is a large number of inefficient firms. The price charged
by each firm exceeds the long-run marginal cost because both the AR and MR curves are
downward sloping under monopolistic competition. The firm’s equilibrium condition is
Price=LAC>LMC=MR. Therefore, resources are under allocated to firms in the market and
misallocated in the economy.
Under perfect competition all firms are of the most efficient size in the long-run because
P=LAC=LMC=MR. Moreover, under monopolistic competition, an inefficient firm will have to
lower its price in order of sell more and to expand. For this, it will have to lower its average costs
per unit. But an inefficient firm may not be in a position to lower its average costs per unit and to
lower its price.

Thus such firms may continue to exist on the strength of their customers but without attracting
the customers of their rivals. There are a number of small retail shops in every town which
depend upon the goodwill of their customers who due to ignorance or transport costs would not
like to move to more efficient firms which sell the same product at a lower price. But the
existence of such inefficient firms is a social waste.

5. Excess Capacity:
All firms under monopolistic competition possess excess capacity. Since the demand curve (AR)
of a monopolistic competitive firm is downward sloping, its tangency point with the LAC curve
will always occur to the left of its minimum point. Thus when the firm is in long-run
equilibrium, it underutilizes its optimum scale plant. This leads to the existence of more firms in
the industry than required.

All firms work under less than the optimum capacity, and all charge higher than the competitive
price. The failure of the firms to produce less than the optimum output due to a downward
sloping demand curve is a clear wastage of resources from the point of view of the community.

6. Unemployment:
As a corollary to the above, unutilized resources lead to unemployment when firms under
monopolistic competition try to maintain the price of their product instead of maintaining
production.

Conclusion:
From the above, it should not be inferred that monopolistic competition is sheer wasteful and
reduces economic welfare. It has also its merits. For example, informative advertisement is
useful for consumers and product differentiation provides the consumer a wider choice of
products.

OLIGOPOLY
The term oligopoly is derived from two Greek words: ‘oligi’ means few and ‘polein’ means to
sell. Oligopoly is a market structure in which there are only a few sellers (but more than two) of
the homogeneous or differentiated products. So, oligopoly lies in between monopolistic
competition and monopoly. Oligopoly refers to a market situation in which there are a few firms
selling homogeneous or differentiated products. Oligopoly is, sometimes, also known as
‘competition among the few’ as there are few sellers in the market and every seller influences
and is influenced by the behaviour of other firms.
Examples of Oligopoly:
In India, markets for automobiles, cement, steel, aluminium, etc., are the examples of
oligopolistic market. In all these markets, there are few firms for each particular product.

Types of Oligopoly:
1. Pure or Perfect Oligopoly:
If the firms produce homogeneous products, then it is called pure or perfect oligopoly. Though,
it is rare to find pure oligopoly situation, yet, cement, steel, aluminum and chemicals producing
industries approach pure oligopoly.
2. Imperfect or Differentiated Oligopoly:
If the firms produce differentiated products, then it is called differentiated or imperfect
oligopoly. For example, passenger cars, cigarettes or soft drinks. The goods produced by
different firms have their own distinguishing characteristics, yet all of them are close substitutes
of each other.
3. Collusive Oligopoly:
If the firms cooperate with each other in determining price or output or both, it is called
collusive oligopoly or cooperative oligopoly.
One way of avoiding the uncertainty arising from oligopolistic interdependence is to enter into
collusive agreements. There are two main types of collusion, cartels and price leadership. Both
forms generally imply tacit (secret) agreements, since open collusive action is commonly illegal
in most countries at present.
a) Cartels
In the absence of collusion, the monopoly solution in the industry (the solution at which the joint
industry profit is maximised) can be achieved under the rare conditions that (a) each firm knows the
monopoly price, that is, has a correct knowledge of the market demand and of the costs of all firms, (b)
that each firm recognises its interdependence with the others in the industry, (c) all firms have identical
costs and identical demands. (Actually condition (c) implies condition (a).) Two typical forms of cartels:
(a) cartels aiming at joint-profit maximisation, that is, maximisation of the industry profit, and (b) cartels
aiming at the sharing of the market.

b) Price Leadership
Price leadership takes place when there is only one dominant organization in the industry,
which sets the price and others follow it.
Sometimes, an agreement may be developed among organizations to assign a leadership role to
one of them. The dominant organization is treated as price leader because of various reasons,
such as large size of the organization, large economies of scale, and advanced technology.
According to the agreement, there is no formal restriction that other organizations should
follow the price set by the leading organization. However, sometimes agreement is formal in
nature.
Types of Price Leadership model:
i. Dominant Price Leadership:
Refers to a type of leadership in which only one organization dominates the entire industry.
Under dominant price leadership, other organizations in the industry cannot influence prices.
The dominant organization uses its power of monopoly to maximize its profits and other
organizations have to adjust their output with the set price.
The interests of other organizations are ignored by the dominant organization. Therefore,
dominant price leadership is sometimes termed-as partial monopoly. Price leadership by the
leading organization is most commonly seen in the industry.
ii. Barometric Price Leadership:
Refers to a leadership in which one organization declares the change in prices at first and
assumes that other organizations would accept it. The organization does not dominate others
and need not to be the leader in the industry. Such type of organization is known as barometer.
This barometric organization only initiates a reaction to changing market situation, which other
organizations may follow it if they find the decision in their interest. On the contrary, the leading
organization has to be accurate while forecasting demand and cost conditions, so that the
suggested price is accepted by other organizations.
Barometric price leadership takes place due to the following reasons:
a. Lack of capacity and desire of organizations to estimate appropriate supply and demand
conditions. This influences organizations to follow price changes made by the barometric
organization, which has a proven ability to make correct forecasts.
b. Rivalry among the organizations may make a leader, which can be unacceptable by other
organizations. Thus, most of the organizations prefer barometric price leadership.
iii. Aggressive Price Leadership:
Implies a leadership in which one organization establishes its supremacy by threatening the
organizations to follow its leadership. In other words, a dominant organization establishes
leadership by following aggressive price policies and forces other/organizations to follow the
prices set by it.

4. Non-collusive Oligopoly:
If firms in an oligopoly market compete with each other, it is called a non-collusive or
non-cooperative oligopoly.

Features of Oligopoly:
The main features of oligopoly are elaborated as follows:
1. Few firms:
Under oligopoly, there are few large firms. The exact number of firms is not defined. Each firm
produces a significant portion of the total output. There exists severe competition among
different firms and each firm try to manipulate both prices and volume of production to
outsmart each other. For example, the market for automobiles in India is an oligopolist structure
as there are only few producers of automobiles. The number of the firms is small that an action
by any one firm is likely to affect the rival firms. So, every firm keeps a close watch on the
activities of rival firms.
2. Interdependence:
Firms under oligopoly are interdependent. Interdependence means that actions of one firm
affect the actions of other firms. A firm considers the action and reaction of the rival firms while
determining its price and output levels. A change in output or price by one firm evokes reaction
from other firms operating in the market.
For example, market for cars in India is dominated by few firms (Maruti, Tata, Hyundai, Ford,
Honda, etc.). A change by any one firm (say, Tata) in any of its vehicle (say, Indica) will induce
other firms (say, Maruti, Hyundai, etc.) to make changes in their respective vehicles.
3. Presence of monopoly element:
So long products are differentiated, the firms enjoy some monopoly power, as each product will
have some loyal customers.
4. Non-Price Competition:
Under oligopoly, firms are in a position to influence the prices. However, they try to avoid price
competition for the fear of price war. They follow the policy of price rigidity. Price rigidity refers
to a situation in which price tends to stay fixed irrespective of changes in demand and supply
conditions. Firms use other methods like advertising, better services to customers, etc. to
compete with each other.
If a firm tries to reduce the price, the rivals will also react by reducing their prices. However, if it
tries to raise the price, other firms might not do so. It will lead to loss of customers for the firm,
which intended to raise the price. So, firms prefer non- price competition instead of price
competition.
5. Existence of Price Rigidity:
In oligopoly situation, each firm has to stick to its price. If any firm tries to reduce its price, the
rival firms will retaliate by a higher reduction in their prices. This will lead to a situation of price
war which benefits none. On the other hand, if any firm increases its price with a view to
increase its profits; the other rival firms will not follow the same. Hence, no firm would like to
reduce the price or to increase the price. The price rigidity will take place.
6. Barriers to Entry of Firms:
The main reason for few firms under oligopoly is the barriers, which prevent entry of new firms
into the industry. Patents, requirement of large capital, control over crucial raw materials, etc,
are some of the reasons, which prevent new firms from entering into industry. Only those firms
enter into the industry which is able to cross these barriers. As a result, firms can earn abnormal
profits in the long run.
7. Role of Selling Costs:
Due to severe competition ‘and interdependence of the firms, various sales promotion
techniques are used to promote sales of the product. Advertisement is in full swing under
oligopoly, and many a times advertisement can become a matter of life-and-death. A firm under
oligopoly relies more on non-price competition. Selling costs are more important under
oligopoly than under monopolistic competition.
8. Group Behaviour:
Under oligopoly, there is complete interdependence among different firms. So, price and output
decisions of a particular firm directly influence the competing firms. Instead of independent
price and output strategy, oligopoly firms prefer group decisions that will protect the interest of
all the firms. Group Behaviour means that firms tend to behave as if they were a single firm
even though individually they retain their independence.
9. Indeterminate Demand Curve:
Under oligopoly, the exact behaviour pattern of a producer cannot be determined with
certainty. So, demand curve faced by an oligopolist is indeterminate (uncertain). As firms are
inter-dependent, a firm cannot ignore the reaction of the rival firms. Any change in price by one
firm may lead to change in prices by the competing firms. So, demand curve keeps on shifting
and it is not definite, rather it is indeterminate.

DUOPOLY
Duopoly is a limiting case of oligopoly, in the sense that it has all the characteristics of oligopoly
except the number of sellers which are only two in case of duopoly as against a few in oligopoly.
The main distinguishing feature of duopoly (and also of oligopoly) from other market situating is
that the sellers’ decisions are not independent of each other.

A change in price and output by our seller affect the former, and now the former may have to
react. This process of action- reaction of the sellers may continue. This when a duopolist (or an
oligopolist) takes any policy decision he also takes into account the reactions of his rivals. That
is, such a market situation is characterised by the mutual interdependence in policy-making.
Any decision one firm makes (be it on price, product or promotion) will affect the trade of the
competitors and so results in countermoves.

There are five popular models of duopoly, i.e., Cournot’s Model, Bertrand’s Model, Edgeworth
Model, Stackelberg’s Model and Chamberlain’s Model.