When a few firms control a particular industry (such as cardboard box making or grocery retailing) then that industry is said to be an oligopoly, as opposed to a monopoly (where there is only one firm) or competition (where there are many, many players).
Economists look at oligopolies as though they were participants in a game. And economists study their behaviour using “game theory”.
Game theory is a means to make sense of a firm’s strategic conduct. It looks at the behaviour of one firm, taking account of expected actions of other firms in reaction to, or in anticipation of, the conduct of that one firm. “Actions” are decisions that impact on pricing, output or, advertising.
Interdependence between the firms is emblematic of an industry characterised by a few dominant players. Given the behaviour of one, significantly impacts the conduct of another, industry players usually focus more on their rivals than on their customers. They constantly devise and refine strategy, so as to maximise profit and to improve market share.
Games played by oligopolies have four features in common: the terms of an (illicit) agreement between the players; the different actions available to colluders; the array of possible consequences available; and the industry-wide consequences.
While there are several types of games oligopolies play, let’s focus on just one type: price fixing games, as practiced by Visy Industries and Amcor.
Tricky Dicky, the billionaire owner of cardboard box maker Visy Industries has admitted involvement in an illegal price fixing and market sharing arrangement with rival box maker Amcor. Mr Richard Pratt’s mea culpa and the (relative) pocket change (being $40 million) in fines that he’ll have to pony up, constitute a major coup for the Australian Competition and Consumer Commission, which has been chasing Mr Pratt and Visy for illegal conduct that took place in the four years to 2004.
From an economic perspective, just what did Visy and Amcor do that was so horrid?
Visy and Amcor ran a scam (affectionately known in corporate Australia as a “cartel”), where prices for cardboard boxes were agreed to, and the market was divided (on a wink and a nod) between the two operators. The two commanded over 90 per cent of the market (Visy claims that it had 60 per cent and its rival 33 per cent). But who knows what the split between Visy and Amcor really was.
A comprehensive study of oligopolistic behaviour requires knowledge of costs of production of cardboard boxes; the strength of customer demand for the products; and willingness of the firms to collude so as to maximise profits.
For ease of argument, let us assume:
- that the costs of production are lowest if two firms dominate the industry, as opposed to one firm or three firms;
- that demand by local customers (such as food manufacturers Cadbury Schweppes) is strong as they have no where else to go and must shop at Visy or at Amcor; and
- Visy and Amcor freely and willingly entered into and engaged in illicit and outrageous market behaviour.
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