Economics – Differing objectives and policies of firms | e-Consult
Differing objectives and policies of firms (1 questions)
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Strengths:
- Explains Price Rigidity: The model provides a plausible explanation for why prices in oligopolistic markets often remain stable despite changes in costs or market conditions. Firms are hesitant to change prices because they anticipate that their rivals will not follow suit.
- Realistic Assumption of Rival Behaviour: The assumption that rivals will react to price changes is a reasonable one in oligopolies, as firms are interdependent.
- Simple and Easy to Understand: The model is relatively straightforward and easy to grasp, making it a useful tool for analyzing oligopolistic markets.
Weaknesses:
- Unrealistic Assumption of Rivals' Pricing Behaviour: The assumption that rivals will perfectly match price changes is unrealistic. Firms may choose not to react, or they may choose to react in a different way.
- Doesn't Explain All Price Rigidity: The model doesn't fully explain all instances of price rigidity. Other factors, such as regulatory barriers or contractual agreements, can also contribute.
- Difficulty in Empirical Testing: It's difficult to empirically test the model's validity, as it relies on assumptions about rivals' behaviour that are difficult to observe.
Assumptions: The model relies on several key assumptions:
- Firms in the oligopoly are interdependent and aware of each other's pricing decisions.
- Rivals will match price changes if one firm changes its price.
- The demand curve is relatively elastic below the kink and relatively inelastic above the kink.