Oligopoly and Game Theory: The Dance Between Cooperation and Competition

Tianrui Ling

This blog explores how oligopolistic markets operate through game theory and Nash equilibrium, using the Chinese telecommunications industry as a case study. We will also discuss game theory's application in environmental sustainability and its alignment with oligopoly theories, highlighting the balance between cooperation and competition for optimal outcomes.

Exploring Oligopoly with Game Theory and Nash Equilibrium

Oligopoly refers to a market structure dominated by a few large companies that have a great influence on prices and output. Companies must take into account the behaviour of their competitors, creating tension between cooperation and self-interest. While cooperative behaviour can lead to higher prices, the lure of individual profit often leads to increased production and lower prices.

Game theory analyses strategic interactions in oligopolistic markets. Companies' decisions depend on their own strategies and those of their competitors. In such markets, firms often reach a Nash equilibrium, in which each firm chooses the best strategy given the strategies of other firms. This leads to a result between monopoly and perfect competition.

Examples of Game Theory in Oligopoly

An illustrative example of game theory in an oligopolistic market is the Chinese telecommunications industry, which is dominated by three companies that collectively hold a large market share primarily in mobile and broadband services, namely: China Mobile (59%), China Unicom (20%), and China Telecom (21%). This allows them to have a considerable impact on market prices and output. This distribution shows a typical oligopoly structure, in which a few companies dominate the market.

The researchers used bounded rationality to analyse competitive behaviour. As the adjustment rate by bounded rational actors increases, the Nash equilibrium can become unstable, leading to bifurcation, complicating strategic planning, and causing market volatility, making regulation more challenging.

Applying Game Theory to Environmental Sustainability

Game theory is widely applied in environmental management to influence policy, business, and economics. It helps analyse fisheries management, greenhouse gas emissions, transboundary pollution, and water management, focusing on abatement costs, liabilities, and incentive programs.

Locally, game theory addresses issues like the "tragedy of the commons" by analysing the use and management of common-pool resources. It examines how communities manage these resources through self-governance and cooperation.

Globally, game theory analyses interactions among countries for environmental management, such as negotiating agreements like the Paris Agreement. Countries balance economic interests with global environmental goals, deciding on emission reduction commitments through cooperative strategies. This involves exploring cooperation, non-cooperation, and bargaining strategies in climate change management, considering asymmetries in environmental damage, technical capacity, and emission abatement costs.

Consistency with Theories and Models of Oligopoly

The behaviour under duopoly is consistent with oligopoly theory and model. The tension between cooperation and self-interest is evident, as firms would benefit from acting like a monopoly by restricting output and raising prices, but each is incentivized to increase production to gain a larger market share. This aligns with the concept of Nash equilibrium, where each chooses their best strategy given the other's actions, leading to a higher output and lower prices than a monopoly but not as low as perfect competition. Actions reflect the interplay of output and price effects, demonstrating the challenges of collusion and the tendency towards non-cooperative behaviour in oligopolistic markets.

Conclusion

Understanding the interplay of strategies in oligopolistic markets through game theory provides valuable insights into the delicate balance firms must maintain between cooperation and competition for optimal outcomes.

Reference List：

1. Chappelow, J. (2023). Oligopoly: Meaning and Characteristics in a Market. [online] Investopedia. Available at: https://www.investopedia.com/terms/o/oligopoly.asp.

2. Collins, B.C. and Kumral, M. (2020) ‘Game theory for analyzing and improving environmental management in the mining industry’, Resources Policy, 69. doi:10.1016/j.resourpol.2020.101860.

3. Chen, F., Ma, J.H. and Chen, X.Q. (2009) ‘The study of dynamic process of the triopoly games in chinese 3G telecommunication market’, Chaos, Solitons and Fractals, 42(3), pp. 1542–1551. doi:10.1016/j.chaos.2009.03.039.

About the Author

Tianrui Ling is a second-year student in BSc Accounting and Management. Under the excellent guidance of Dr. Ravshon, I have developed a keen interest in economic concepts such as Monopolistic Competition, Oligopoly, Game Theory, and Tax Incidence. If you share these interests or have other interesting topics to discuss, feel free to discuss them with me. My email address is cb221252@qmul.ac.uk.