Question

1) In your own words, explain why companies might decide to collude (work together) even though it is illegal in the US. (hint: How will it benefit them? What are the penalties if they get caught?)

2) In your own words, explain why companies tend to break agreements to collude even when it is in their joint best interest to follow it.

3) What is likely to happen to the amount of competition an oligopoly faces when the number of companies in the market increases? What will this do to the total quantity produced? What will this do to the price?

Answer 1

1) COLLUSION : It is regarded as the criminal offense as companies wor together without competition to maintain the prices of goods to an elevated level and decrease the quantity of goods manufactured.It is also known as price fixing or CARTEL where companies break the trade law of competition and convert an oligopoly market in to a monopoly.Though collusion is not illegal in many countries but contries like U.S considered it as a crime and may impose the penalty like advance notices on price changes and charging penalty for violating the law and following antitrust rule.

2) In countries like U.S, collusion is regarded as illegal by the antitrust law because they cost to society more than they bring.As the consumers will no longer have the chance to choose from their alternatives and it would effect the society in turn as the customers have to pay more for a product which no longer available in the market except one firm .This decrases the utility level of consumers and they tend to decrease the consumption of that product which in turn will have the effect on the economy.

let us say that there are two companiesin the market selling the same poduct with the price $2 and same quantities .Now each firm is controlling half of the market with revenue let us say $170 and cost $80 .It means they earn a profit of $90.so without collusion each firm will have a price war and decreases the price to attrat more and more customers.At a particular point the utility level of customers become zero and there is no point in decreasing the price by the firms .Because if they decrease the price they will no more attarct the customers since utiity is zero and at that point their total cost per day remains the same which means a loss to the firm.

so in that case the firm enters the collusion state ,makes a price fixing deal to increase the price and decrease the quantity produced .so that no one of them faces loss .

companies should be competing for customers on price ,quality etc in order to maintain a balanced economy.Else it leads to a monopoly market structure driving out oligopoly from the market which effect the common men both consumers and the local entrepreneurs to survive in the market leading to low demand and less GDP of economy and unemployment.

3) The competition will be greater if the oligopoly face large number of firms in the market. The oligopoly firms will have to lower the price and increase the quantity to attarct more customers than the competitors .But at a point,the firm will face a problem in decreasing the price as it will increase its total cost resulting in dead weight loss.so the firm either enters collusion or cartel or it may follow the kinked demand curve(equlibrium price).