Duopoly: An Industry Dominated by Two Firms

An in-depth exploration of the economic concept of a duopoly, where an industry is dominated by two major firms.

A duopoly is a specific type of oligopoly where only two firms dominate the market. This market structure is characterized by the interplay between these two large firms, alongside potentially smaller competitors whose market presence is minimal. The concept of a duopoly is significant in economics for understanding competitive behaviors, market control, and pricing strategies.

Characteristics of a Duopoly§

Two Dominant Firms§

In a duopoly, the market largely consists of two major firms whose decisions significantly impact the market. These firms can influence prices, output, and supply through competitive and cooperative strategies.

Market Control and Influence§

Duopoly firms typically have significant control over the market, enabling them to set prices and outputs to maximize profits. This control may lead to higher barriers to entry for other potential competitors.

Limited Competition§

Competition in a duopoly is limited mainly to the two dominant firms, often leading to strategic behaviors such as price wars, collusion, and non-price competition such as advertising and product differentiation.

Types of Duopoly§

Cournot Duopoly§

In this model, firms choose quantities rather than prices. Named after Antoine Augustin Cournot, firms in a Cournot duopoly decide on the quantity to produce assuming their competitor’s output remains constant.

Bertrand Duopoly§

Named after Joseph Louis François Bertrand, this model assumes that firms compete on price rather than quantity. Each firm sets its price assuming the other’s price will remain constant, aiming to capture a larger market share by undercutting the competitor.

Mathematical Representation§

Cournot Model§

In the Cournot model, the quantity produced by firms $Q_i$ and $Q_j$ (where $i$ and $j$ represent the two firms) are interdependent. The profit for each firm is given by:

$$\Pi_i = P(Q) \cdot Q_i - C_i(Q_i)$$

where $P(Q)$ is the price as a function of total quantity $Q = Q_i + Q_j$, and $C_i(Q_i)$ is the cost function for firm $i$.

Bertrand Model§

For the Bertrand model, the firms set prices $P_i$ and $P_j$. The profit for each firm is:

$$\Pi_i = (P_i - C_i) \cdot Q_i(P_i, P_j)$$

where $Q_i(P_i, P_j)$ is the quantity demanded for firm $i$ based on both firms’ set prices.

Historical Context§

The concept of duopoly has been central to economic thought since the 19th century, with significant contributions from Antoine Augustin Cournot and Joseph Bertrand. These early models laid the groundwork for modern industrial organization and competition theory.

Applicability and Examples§

Real-World Examples§

• Airbus and Boeing: In the aerospace industry, Airbus and Boeing dominate the market for large commercial aircraft.
• Visa and Mastercard: These two firms primarily control the credit card processing industry.

Strategic Behavior§

In duopolies, firms might engage in various strategic behaviors such as:

• Collusion: Agreeing implicitly or explicitly to set prices or output levels.
• Price Leadership: One firm setting a price that other firms follow.
• Product Differentiation: Differentiating products to capture different market segments.

Related Terms§

• Oligopoly: A market structure with a small number of firms whose decisions impact each other. A duopoly is a special case of an oligopoly.
• Monopoly: A market with a single seller. In contrast, a duopoly has two significant sellers.
• Monopolistic Competition: A market structure where many firms sell differentiated products and have some control over prices.

FAQs§

What distinguishes a duopoly from an oligopoly?

A duopoly involves exactly two dominant firms, while an oligopoly can have several leading firms.

How do firms in a duopoly behave strategically?

Firms in a duopoly may engage in strategic behaviors such as price setting, output decisions, collusion, and product differentiation to enhance their competitive positions.

Can duopolies lead to higher consumer prices?

Yes, due to limited competition, duopolies can potentially set higher prices compared to more competitive markets.

Summary§

A duopoly, characterized by two dominant firms in a market, plays a crucial role in economic analysis of market structures. Through various models such as Cournot and Bertrand, economists explore the strategic behaviors and outcomes that arise from such competitive dynamics. Understanding duopolies helps in analyzing real-world industries, gaining insights into pricing strategies, market control, and the nature of competition between a few large firms.

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References:

• Cournot, A.A. (1838). “Researches into the Mathematical Principles of the Theory of Wealth.”
• Bertrand, J. (1883). “Review of Cournot’s Theory of Wealth.”
• Tirole, J. (1988). “The Theory of Industrial Organization.”