Question

Why are oligopolistic firms price searchers?

Short answer

Oligopolistic firms are price searchers because, due to their significant market power and the downward sloping demand curve they face, they have the ability to set or 'search' for their own prices to some extent in order to maximize profits. Unlike in a perfectly competitive market, these firms do not take the market price as given.

Step-by-step solution

Define Oligopoly

Start by defining an Oligopoly. It's a market structure characterized by a small number of large firms dominating the market, producing similar or differentiated products. Since there are small number of firms, the actions of one firm likely influences the others.

Explain Price Searcher

Then define 'Price Searcher'. In a competitive market, firms are price takers whereas in an oligopoly, firms are price searchers. This means, they search for the price that will maximize their profits as they don't take the market price as given, rather they have some power to determine the price of their product.

Connect Oligopoly and Price Searching

Oligopolistic firms are price searchers because they have significant market power and face downward sloping demand curves. This means they have the ability to set their own prices to some extent, unlike in a perfectly competitive market where firms are price takers. By altering the price of their product and assessing the market's response, they are able to 'search' for the price that yields the highest profitable outcome. However, these firms must also take into account the probable reactions of their competitors, which adds another layer to their strategic decision making.

Key concepts

Price Searcher

In the world of economics, a **price searcher** is a firm that has the ability to influence the price of its product rather than taking the market price as given. Unlike in perfectly competitive markets where numerous firms sell identical products, a price searcher operates in a different market environment, often with some degree of market power. This allows them to set their own prices instead of just accepting the ongoing market rate.

Price searchers are typically found in market structures with fewer firms and where products or services are not homogenous. They strategically set prices based on understanding their own costs, the demand for their product, and potential competitor reactions. For example, if a firm lowers its price, it might attract more customers, but this usually involves considering how such a move might provoke competitive responses. Thus, price searching involves a constant balancing act between pricing, demand, and competitor behavior.

• Firms have some control over pricing.
• Price decisions are influenced by the firm's market power and demand.
• Competitor reactions are a key consideration in pricing strategies.

Market Structure

The term **market structure** refers to the organization and characteristics of a market that influence the nature of competition and pricing. Some common types of market structures include monopoly, oligopoly, monopolistic competition, and perfect competition. Each differs fundamentally based on the number of firms present, the type of products they sell, and how easy or difficult it is to enter or exit the market.

Oligopoly, as a market structure, is defined by the presence of a small number of large firms that dominate the market. These firms offer either identical or differentiated products, and because there are few players, each company’s decisions can significantly impact the others. This interdependence means that oligopolistic firms need to strategize carefully; they cannot disregard the actions or potential actions of their competitors.

• Few firms dominate the market.
• Firms may produce similar or varied products.
• Strategic actions are closely intertwined with competitors' potential responses.

Competitive Market

A **competitive market** is characterized by many small firms producing and selling nearly identical products. In such markets, no single firm has the market power to set prices, which means they operate as **price takers**. This implies that the price of goods is dictated by overall supply and demand conditions in the market rather than by individual business strategies.

In a competitive market, new firms can easily enter or leave the marketplace, driving economic efficiency. Competition leads to fair pricing, improved quality, and innovation as companies strive to maintain or improve their market share. However, the lack of pricing power means that firms have to be efficient in their operations to profit, as they must accept prevailing market prices.

• Numerous small firms exist with no single firm controlling the market.
• Products are mostly undifferentiated, making firms price takers.
• Ease of market entry and exit promotes competition and efficiency.