Question

1. Should we be more concerned about the likelihood of collusion in a market with few firms representing a large share of the market compared to a market where each firm has a low market share, all else equal? You must EXPLAIN your answer.

2. Is collusion more likely to be sustainable in declining markets or in growing markets? You must EXPLAIN your answer.

Answer 1

1)

Collusion is a non-competitive, secret, and sometimes illegal agreement between rivals which attempts to disrupt the market's equilibrium. The act of collusion involves people or companies which would typically compete against one another, but who conspire to work together to gain an unfair market advantage.

YES, We should be concerned about the likelihood of collusion in a market because, Collusion is seen as bad for consumers and economic welfare, and therefore collusion is mostly regulated by governments. Collusion can lead to:

• High prices for consumers. This leads to a decline in consumer surplus and allocative inefficiency (Price pushed up above marginal cost)
• New firms can be discouraged from entering the market by types of collusion which act as a barrier to entry.
• Easy profits from collusion can make firms lazy and avoid innovation and efforts to increase productivity.
• Industry gets the disadvantages of monopoly (higher price) but none of the advantages (e.g. economies of scale)
• High concentration reduces consumer choice.
• Cartel-like behaviour reduces competition and can lead to higher prices and reduced output.
• Firms can be prevented from entering a market because of deliberate barriers to entry.
• There is a potential loss of economic welfare.
• Oligopolists may be allocatively and productively inefficient.

2)

Yes, collusion is likely to be sustainable in markets because the study has explored the relationship between demand growth and collusion in a model where market growth can trigger future entry. This is an issue which has received very little attention in the previous literature on tacit collusion, but is of utmost importance for understanding the relationship between demand growth and firms’ market power in an industry. Ex-post entry, the number of market participants can no longer be affected by market growth and the standard intrinsic pro-collusive effect of demand growth is shown to prevail: the expected rise in demand increases the future cost of deviation, which in turn implies that an increase in the market growth rate induces an increase in the maximal degree of sustainable post-entry collusion. Ex-ante entry, however, the relationship between the maximal degree of sustainable pre-entry collusion and market growth is shown to be in general non-monotone. This analysis, therefore, clearly suggests that, when studying the impact of demand growth on (preentry) collusion, it is crucial to try and disentangle the pro-collusive intrinsic effect of demand growth from the impact of entry and other factors affected by market growth so as to assess their relative strengths. By so doing, the current paper sheds some light on the understanding of why the EC usually interprets demand growth as a factor hindering collusion, an interpretation which contrasts with the conclusion of tacit collusion models with growing demand where the possibility of entry is assumed away.

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