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Case Study: Imperfect competition and alternative theories of the rm

Sangeetha had started her career working as a dinner lady at a local primaryschool. After a few years doing this she was keen to set up her own business withthe help of a few friends. She noticed that many schools were now outsourcing theprovision of their food, and Sangeetha decided that she and the others should bid

one of these contracts. After a few failed bids they nally own the right to supply asmall local school and from then on never looked back.

Since then Sangeetha has built up her business over the years and now is one of the biggest suppliers in the country. There are two other main competitors, andSangeetha is increasingly going head to head with them when bidding for contracts.

To win the deals she is having to guess what they are going to bid and try toundercut them; this process is eating into all their pro ts. At a recent meeting of theIndian catering Society the bosses of Sangeetha s biggest rivals asked for a chat.

They suggested to Sangeetha that life could be a lot better for all of them if theytook it turns to bid for contracts. That they would avoid competing against eachother. Sangeetha liked the sound of this but asked for a few days to think about it.

!uestions

1. Discuss the possible consequences of these rms competing againsteach other?

In a perfectly competitive market,

"i# There are buyers and sellers, so each buyer or seller is a price taker,

"ii#All sellers supply the similar product.$ence, the rm cannot a%ect the &market price.' This simply says that rmhas no power to raise its price. If it does so, the rm might not be able to selloutput because consumers will buy goods from others.

So, each competing may even choose to bid at lesser value "(arginal cost#,so they can maintain market share or achieve other ob)ectives. These rmsneed to reduce the cost to bid lower than current marginal cost.

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Sample Oligopoly ricing Strategy

!. Shoul" Samantha accept the proposal to ta#e it in turns to bi" forcontracts?

This is illustration of the 7artel situation. The factors that make collusionmore likely are

a. 2elatively few business which can monitor each others actions easily

b. Signi cant barriers to entry, providing e8isting rm strong control overthe market

c. Similar costs, will gain similar rewards and disputes are less likelyd. Stable market conditions

$artel rice %o"el

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9iven the product sold at price 1 , (arginal revenue : 1 . 1ro tma8imi ation by producing at irm gains at others e8pense, if all the rms deviate from thisagreement the overall production price of the industry would go downwhereby reducing the overall pro t generated by the industry.

Though there are few advantages to bid in turn for contracts, as per 9ametheory, agreements are inherently unstable as the behavior of members of acartel is an e8ample of a prisoner s dilemma. *ach member of a cartel wouldbe able to make more pro t by breaking the agreement, producing a greater

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&. Shoul" the go'ernment allo( rms to ma#e agreements on (hichcontracts to bi" for?

@o The government should not allow due to following reasons.

)igher prices

7olluding members can all raise prices together, which reduces the elasticityof demand for any single member.

Goo"s * Ser'ices +uality

A signi cant disadvantage of such agreements is that the

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Des In our opinion competition is good.

The following are the advantages.

i. Bower prices for consumers

ii. A greater discipline on producersEsuppliers to keep their costs down

iii. Improvements in technology F with positive e%ects on productionmethods and costs

iv. A greater variety of products "giving more choice#

v. A faster pace of invention and innovation

vi. Improvements to the