Economic and Social benefits of collusion: Collusive oligopoly can bring about economic benefits to consumers. Firstly, cartels results in a uniform market structure with one price and one level of output produced. The result is greater consumer or business confidence, as expenditure can be more easily planned. One example of where prices were maintained relatively constant would be oil in the 1990s; where OPEC aimed to charge between $25 and $35 per barrel of oil. In doing so, businesses requiring oil as a raw material had the confidence to make long-term cost predictions.
The ability to make such predictions often gives producers the confidence to invest and boost the long-term profitability of the firm. Cartels may also provide social benefits in markets for demerit goods. In the cigarette market for example, if firms were to collude on higher prices for tobacco, fewer cigarettes would be ‘consumed’ and welfare would be improved. There is also no need for oligopolies to spend large amounts on publicity and advertising, since each firm is operating in the same way under a cartel.
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The result of these higher profits mean there are more spare funds for investment and innovation, which would ultimately benefit consumers in the long run. The interdependency of oligopolies under a cartel also allows for the cooperation of research and development. There can also be joint investment in capital and labour. The resulting decreased production costs provide spare funds for product development. Disadvantages: Collusion can take one of two forms. Explicit collusion results when two or more firms reach a formal agreement.
Implicit collusion results when two or more firms informally control the market without necessarily reaching a formal agreement. By acting like a monopoly, the colluding firms can set a monopoly price, produce a monopoly quantity, generate monopoly profit. For example if all firms collude to set artificially high prices then the consumer will have no choice but to buy the product at the artificial high price. Given that collusion is usually illegal, especially within the United States, it is invariably kept secret. Some collusive agreements, however, are anything but secret.
The most well-known example is the Organization of Petroleum Exporting Countries (OPEC) Japanese Case Let’s look at the collusive oligopoly behaviour of 11 Japanese oil companies, which had engaged in bid rigging in oil procurement by the defence facilities administration agency. It involved the bidding of gasoline, kerosene, diesel oil, crude oil, and jet fuel by means of designated competitive bidding. In the bidding only those companies were allowed to participate who registered the list with some qualification.
The agency had to do bidding for six to seven times per year for their procurement and each competitive bidding involved different type of oil and location of bases. The agency was following the specific process for the procurement: First, the agency makes designations of competitive bidding i. e. low price bidding depending upon the type of oil and location of bases. When no participant reaches the agency’s estimated price for the contract, the bidding process is repeated. This process is repeated three times.
And after that also if no bidder agrees with the price set by the agency then the agency negotiates with the company whose bid was minimum in the last round of bidding so that they can agree upon some intermediate price. If there is no agreement on the price between agency and the company, then the agency terminates the negotiation and calls for fresh bidding. And this time the price is set lower than previous. This lower price depends on the negotiation with the lowest bidder.
What these 11 companies did was: These eleven oil companies decide among themselves that who will win the competitive bidding. This is decided by the companies depending upon the quantity and profit a firm got from bidding from this agency. For every bidding all these company holds the meeting to decide who will be the successful bidder. They choose the successful bidder based on a plan to distribute the jet fuel bids among the firms. Whenever the agency asks from the companies for bid, the ompanies sets very high price, which is unacceptable to agency. Again the agency asks for bidding and again these companies set very high price for contract. This process is repeated thrice and in the subsequent processes all the players other than one, who was decided to be the successful bidder, declines the bid. This successful bidder as decided earlier by companies bids lowest. Then the agency negotiates with the company for any agreement but as decided by the firm they do not reach any consensus.
Finally, the agency establishes a new estimated price for the contract and another designated competitive bidding based on the new estimated price. Now the lowest bidder who had proposed price to the agency accepts the new estimated price and all other companies help him in this by not participating in the bid as planned. These eleven companies had been receiving almost every order from the agency in such a manner. Conclusion Collusive oligopolies is more like a monopoly.
However it is very fragile since self interest to earn maximum profit can tip off the balance and can lead to price war. The success of collusive oligopoly is quite dependent on the number of firms involved and their level of cooperation. It can be observed that it is difficult to maintain cartels in the long run with an exception of OPEC. Policymakers regulate the behavior of oligopolists through the antitrust laws. The proper scope of these laws is the subject of ongoing controversy.