Obstacles to collusion

     Cartels (that are a formal agreement among various firms in industry to set the prices of products and establish the outputs of the individual firms or to divide the market among them) and other arrangements are difficult to create and to maintain. Let’s describe some barriers to collusion for various industries:
Demand and Cost differences
   Oligopolists face different cost of production and demand curves, so it’s difficult for them to agree on price, which is true for industries that produce differentiated products and change them frequently. Even if firms have standardized products, they usually have different market shares and operate at different degrees of productive efficiency. That’s why even homogeneous oligopolistic firms may have different demand and cost curves.
   Differences in demand and cost mean that even profit-maximizing price and output will be different among firms; there will be no single price acceptable by all firms. Price collusion depends on concessions and compromises which are not easily to obtain, since there are many obstacles to collusion.
     Number of Businesses
       So, it’s obvious the fact that more firms being present in an industry, harder is to create a cartel or other kind of price collusion. An agreement on price set is relatively hard to accomplish when there are 3 or 4 firms, but what if there are 10 firms that share each about 10% of the market, or there is Big Four that has about 70 percent of market share, and there are 4-5 small firms that have other 30% of this market share.
Cheating
     As it was explained in Game Theory model (previous article), there is a high-temptation for collusive oligopolistic firm to make a secret cut in price that may result in increased revenues. So buyers that are getting price cut by one supplier may wait for price-cut for another. Buyers may attempt to create a play between these two firms, so that it may transform into a real war. Even if cheating between collusive oligopolists may be profitable, this act is destructing it over time. However, collusion is more likely to succeed when cheating is easier to observe and punish.
Possible Entry
   Greater revenues may result in attracting new firms in this industry. Since this may create increased market supply and reduced prices, successful collusion of oligopolists requires them to block the entry for new producers.
Recession
   Recessions serves as enemies to collusion, since markets will increase average total costs (ATC), because oligopolists’ demand and marginal revenues (MR) will decrease in response to this recession. Firms will find out that the quantity supplied by them is in excess, so these firms will have to avoid great profit reductions (or losses) after cutting prices and thus they will gain sale at expense of rivals.
Anti-combined law (legal barrier)
   Many countries have anti-combined laws that prohibit this price-fixing collusion, so this means that they have a system of price control.

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Oligopoly Market System

   Oligopoly is a market system that is dominated by few big suppliers of homogeneous or differentiated products. Because there are few firms, oligopolists have great control over prices, but they should consider reaction of rivals after they change price of goods, output quantity and amount of money spent on advertising.
Producers
   The phrase “few large producers” is one necessary to describe this kind of market system. Some examples of oligopoly can be two or three zinc producers in Sweden, or five or six producers of auto parts in U.K. When you will read in some magazines at economics about Big Three, Big Four or Big Five, you may be sure that there is described an oligopoly.
 Homogeneous or Differentiated Products
   An oligopoly may be either homogeneous or differentiated one, since the firms in this kind of market system produce a standardized or differentiated product. Many industrial goods( aluminum, lead, cement) are standardized products that are supplied in oligopolies. However, other goods (like cigarettes, automobiles, breakfast cereals) are produced in differentiated oligopolies. Last kind of oligopoly engages in non-price competition by heavy advertising.
   Price and mutual interdependence
   Since in oligopolies there are few firms, each one is a price-maker, like monopolists the y may set the price and output level for their goods, so that these firms control the revenue. However, unlike monopolists (since there are no competitors), oligopolists should consider the reaction of rivals to this changes in price, output, product’s characteristics and money spent on advertising. Thus Oligopolists are described by mutual interdependence: a situation in which firm’s profits doesn’t depend completely on its price and sales policy, but also on that of rivals. For example, before increasing the price of its drinks Pepsi should predict the response of other major producers, like Coca-Cola.
   Entry-Barriers
   Similar entry barriers created in pure monopoly are also created in oligopoly. Economies of scale are a factor that serves as barrier to entry in some oligopolistic industries, such as aircraft, car-producing, and cement industries. In this kind of industries three or four firms control the market supply, so that they have enough money to produce economies of scale, but other firms even if they will want to enter this market will have a small market share so that they won’t be able to have enough revenues to produce economies of scale. They would be high-cost producers, so that these firms won’t be able to survive in this industry.
   Ownership and control of raw materials are another explanation why it’s very difficult to enter in oligopolistic market system. Oligopolists also prevent the entry of new competitors by preemptive pricing and advertising strategies.
Mergers
   Some oligopolies have started because of very fast growth of dominant firms in some industries. But other however, produced an oligopoly by merging with other competing firms. Merging or combination of two or more firms may increase their revenues and economies of scale, because of increased market share they got.
   Another explanation of “urge to merge” is the want for a higher monopolistic power, since larger firm has a greater control over market supply and on the price of its product. Also, because of higher economies of scale they get less costs on producing some goods and services than their rivals.
Is merge between Google and Facebook possible and also profitable?