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Why do economists believe an oligopolist's demand curve may be kinked? A
Why do economists believe an oligopolist's demand curve may be kinked?
A. The government may collude with the firm to cause that type of shape.
B. The oligopoly firms "cheat" and mark up prices to create that shape.
C. If oligopolists don't collude, they may still find that competitors ignore price increases, but match price decreases.
D. Intense competition may drive them to the position where the demand curve has a kink.
Expert Solution
The answer is C).
In an oligopoly with no collusion, when one firm raises the price, other firms might not have the incentives to match the price increase. Because a firm charging a lower price is able to sell more output. Hence, the firm that raises price will lose market shares, in this case, the demand curve becomes more elastic, i.e., steeper.
When a firm reduces prices, other firms will match in the fear of losing market shares. So the market price will be lower than before, and the firm that moves first will not able to capture all the increase in quantity demanded by consumers. As a result, the demand is less elastic, i.e., flatter.
The existence of a steeper portion and a flatter portion means that the demand curve is kinked.
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